When should you settle a debt?

One of the hardest decisions in collecting potential bad debt is whether to cut your losses and take a settlement of x% on the dollar, or go for the full balance. When considering a settlement it is prudent to factor in the financing costs of carrying your delinquent customer's debt. Also, what can you do with the settlement dollars right now, as opposed to somewhere down the road. In many instances, a rejected settlement offer can result in the debtor going into receivership or bankruptcy. There are many factors to consider when deciding on whether to accept, or reject a settlement offer.

The most important factor is whether the debtor is telling you the truth about why they are proposing a settlement. This is where credit reports and trade references can help confirm, or debunk what the debtor is telling you. A bit of research will reveal whether you should make a counter offer, accept the offer as is, or reject the offer.

There are two generic scenarios that usually accompany a settlement offer.

With commercial debt the debtor company has usually accumulated a massive debt load and has hit the wall. They can no longer pay their obligations on time. It is obvious that their financial situation is not sustainable. In these cases, if the debtor company can't reduce their debt load they will go out of business.

To come up with a lump sum settlement offer the company principals may be ready to inject money into their company. The source of their settlement funds may be from a pending, high interest loan with restrictive contingent conditions such as settling, or reducing their debt load. The settlement funds may be from a new shareholder who will be taking an equity position.

With consumer debt the debtor is probably getting a personal loan from a relative or friend. In most cases if the debtor cannot get all creditors to settle then they will end up going bankrupt. Usually, when a consumer settlement proposal is rejected the odds of ever seeing any money are extremely remote.

When deciding on whether to reject, make a counter offer, or just accept a settlement it pays to listen to your gut instinct. There are often intangible signals that should be factored in to your decision. For example: You may be talking with a commercial debtor you have known for a few years. However, you can hear stress and anxiety in their voice that you have never heard from them before. In some cases you can tell the debtor is on the verge of cracking. This can be a sure sign of a do or die situation.

Research and facts usually determine whether you should accept, reject, or counter offer on a settlement proposal. However, sometimes major factors are not black and white. It is smart to let your gut instinct have a say in your decision.

Every settlement proposal is unique, especially when it comes to large balance commercial debt. Sometimes it is possible to turn a settlement proposal into a win-win scenario.

For example: We were pressing a limited debtor company in the construction industry for payment on a large six figure account. Our Client didn't have any personal guarantees so the debt was unsecured. The debtor company was in bad financial shape and if things didn't change they were headed for insolvency. Out of the blue we received a settlement offer of 75 cents on the dollar.

The company was being sold. The company buying them out was rock solid financially and they wanted to keep the company running. However, there was too much unsecured debt which threatened the sale. The buyer put a condition on the sale that the unsecured debt had to be settled out, or the deal was off. Basically our Client had no choice but to accept the offer. If they didn't the sale would fall through and the probable outcome was pennies on the dollar.

However, our Client had something in their favour. They supplied the debtor company with construction materials they couldn't get anywhere else. We accepted their offer with one stipulation. The buyer would guarantee that they would purchase certain products from our client for an exclusive three year period. The buyer accepted our stipulation, the sale went through and our Client received a lump sum settlement.

Over the three year period, our Client ended up making a lot of money. Not only were they selling to the company that had been sold, but the buyer owned other companies that now also buy from our Client. This is one settlement where the creditor ended up getting the better deal.