How much does business debt settlement cost? Besides the settlement company's fee of 15-25% of enrolled debt, you will have to pay each creditor a lump sum or series of payments to settle your debt. You will also have to pay income tax on any debt you have settled, unless you qualify for an exclusion like insolvency. The total is usually much closer to the original balance than advertised savings suggest.
What are the costs of business debt settlement?
The total cost of business debt settlement includes the fees you pay to the debt settlement provider, the payments you make to each creditor, and income tax on forgiven debt. Debt settlement companies usually advertise only their fees. Interest and default charges add more.
How much does a business debt settlement company charge?
Most business debt settlement companies charge 15-25% of enrolled debt, and some charge as high as 35%. You can see a list of debt settlement fees at Debt.org. See how fees based on enrolled debt compare to fees based on savings. Companies may be able to charge you upfront, since the Federal Trade Commission's prohibition on upfront debt settlement fees generally does not apply to business-to-business sales calls. See our article about business debt settlement upfront fees. If you have merchant cash advance debt, see how much MCA debt relief companies charge.
How much can business debts be settled for?
Settlement providers claim they can settle your business debt for 30-60% of the original debt. No published statistics confirm that, but how a debt is settled and taxed depends on its type:
| Type of Debt | How Settled | Income Tax Treatment |
|---|
| Merchant Cash Advance | Negotiate lump sum or lower payments | Unclear whether MCAs count as debt for tax purposes; ask your CPA |
| Equipment Loan | Return equipment and negotiate unpaid balance | Treated as a sale at fair market value; debt forgiven above that value is income |
| Bank Line of Credit | Negotiate lump sum or short payment plan | The bank must file Form 1099-C if it forgives $600 or more |
| Vendor Invoices | Negotiate directly with vendor | May not be treated as income if you use the cash method of accounting |
If the dealer who sold you the equipment financed it and reduces the amount you owe, then the reduction may not be treated as income. See 26 USC 108(e)(5). It applies only if you are solvent, outside bankruptcy, and the lender is the dealer, not a third party.
Is forgiven business debt taxable?
Yes, if your debt is settled or forgiven, you have to pay income tax on the amount canceled. The IRS says it must be reported on your tax return on the schedule on which your business reports income, such as Schedule C, E, or F. Lenders that have lending as a significant business must file a 1099-C if they cancel $600 or more in debt, but you must still report smaller amounts.
Insolvency and the Form 982 trade-off
If you were insolvent, i.e., if your liabilities exceeded the fair market value of your assets immediately before your debt was canceled, you can exclude the canceled debt income to the extent you were insolvent. You must file Form 982 with your tax return to exclude the income, but this will reduce other tax benefits, such as net operating losses and the basis in your property.
Why your entity type matters
If your business is a partnership or multi-member LLC taxed as a partnership, then you must determine insolvency on a partner-by-partner basis. See 26 USC 108(d)(6). If your business is an S corporation, you must determine insolvency at the corporate level. See 26 USC 108(d)(7).
What does a mixed debt stack actually cost to settle?
Let's say you have $150,000 of unsecured business debt consisting of a $90,000 MCA, a $40,000 bank line of credit and $20,000 of vendor invoices. You settle the MCA for 55%, the line of credit for 50% and the invoices for 60%, and the provider charges 20% of enrolled debt. Then:
- You will pay the creditors $49,500 + $20,000 + $12,000 = $81,500
- You will pay the settlement provider a fee of $30,000
- The creditors will forgive $68,500 of debt. If you (the owner) are solvent, at a 24% federal tax rate you will owe $16,440.
Total cost: $127,940. You shaved about $22,000 (15%) off the debt.
If you are on the cash method and never deducted the vendor invoices, the $8,000 forgiven on them is not income and your tax would be $14,520. Also, if you were insolvent by $60,000 at the time the debts were forgiven, you would have debt cancellation income of only $8,500 subject to the Form 982 attribute cuts described above.
What costs keep running while you negotiate?
Interest and default charges will continue to accrue on the debts at their contract rates until the deals are signed. A creditor who sues and wins a judgment first adds judgment interest (9% per annum in New York State pursuant to CPLR 5004 unless you are an individual owing consumer debt in which case it is only 2%).
The provider's monthly charge also continues until the debts settle (Debt.org found that consumer debt settlement companies charge $5 to $20 per month plus setup and cancellation fees), and so does the cost of a lawyer to defend suits filed before the deals were signed (ask in writing whether the settlement company's fee covers that).
Is business debt settlement cheaper than bankruptcy?
Filing a Chapter 7 bankruptcy costs $338 and a Chapter 11 costs $1,738 pursuant to the current federal fee schedule and a small business Chapter 11 under subchapter V skips the US trustee's quarterly fees under 28 USC 1930. And you don't owe any tax on the debt that you discharge. But you will need a lawyer and their fees vary widely.
What you should know about debt settlement and taxes
Is forgiven business debt under $600 tax-free?
No, that amount only determines whether the lender has to file a 1099-C. Even if the debt is canceled by a vendor or funder who does not file a 1099-C for it, it is still taxable income.
Does my 401(k) count as an asset when determining if I am insolvent?
Yes, as do IRAs, other retirement accounts and pensions. See the insolvency worksheet in IRS Publication 4681.
Is debt forgiveness from a vendor taxable income?
Not if you are a cash basis taxpayer and you would have been able to deduct the invoice if you had paid it.
Are debt settlement fees deductible for a business?
Generally, businesses can deduct all ordinary and necessary business expenses, and fees paid to settle business debt usually qualify, but check with your CPA.