How does a full and final settlement work?

A full and final settlement is an informal deal between you and one creditor. It is not an insolvency procedure, there is no court, and no public record. It suits people who can raise a lump sum but could never repay the whole debt, and whose debt has usually already defaulted.

It sits alongside the formal ways of getting debt written off, which are covered in how to write off debt in the UK. Free, impartial debt advice is available from MoneyHelper, StepChange, Citizens Advice and National Debtline, and an adviser can help you work out an offer and write to creditors for you: see where to get free debt advice.

When might a creditor accept a settlement?

The creditor does not have to accept. StepChange says lenders are more likely to agree if you cannot afford to repay the debt within a reasonable time, or may never be able to pay it in full. In practice that often means:

• the account has defaulted, or has been sold to a debt purchaser
• you have been making low or token payments for a long time
• your circumstances are unlikely to improve, for example because of long-term illness or retirement
• the alternative for the creditor is that you enter a formal insolvency solution.

Common sources of a lump sum are savings, the sale of something you own, an inheritance, or a gift from family or friends. Do not borrow to make a settlement: that swaps one debt for another.

What should you check before you make an offer?

1. Your priority bills are covered. Rent or mortgage, council tax and energy come first. Using a lump sum on a credit card while council tax arrears grow puts you at greater risk. See priority and non-priority debts.
2. The debt is yours and the amount is right. If it has been sold or you do not recognise the figure, ask the creditor to prove the debt first.
3. It is not statute-barred. An old debt the creditor can no longer take to court may not be worth paying at all, and a payment on a debt that is nearly out of time restarts the clock. See statute-barred debt.
4. You are not about to need a formal solution. Paying one creditor ahead of the others can cause problems later. A debt relief order adviser checks whether you have favoured a creditor in the past 2 years, and in bankruptcy a trustee can ask the court to reverse a payment that preferred one creditor.
5. You are not in an IVA. Creditors in your IVA are paid through it. To settle an IVA early with a lump sum, your supervisor puts the offer to all your creditors: see paying off an IVA early.
6. You keep a buffer. Do not use every penny. An emergency straight after paying out can push you back into borrowing.

How much should you offer?

There is no standard figure. What a creditor accepts depends on the debt, your circumstances and the creditor’s own policy. A few principles help:

• Start below the most you can afford, so there is room to go up if the creditor makes a counter-offer. FCA guidance treats a counter-offer as a normal part of the process.
• Explain why this is all you can pay. A short statement of your income and spending, and where the money comes from, makes the offer credible.
• Be clear it is a one-off. Say the money is from a source that is only available now, such as a gift.
• If you have several creditors, share the lump sum between them in proportion to what each is owed.

How do you make a settlement offer safely?

1. Write to the creditor with your offer. Use the template below. Keep a copy.
2. Do not send any money yet. Wait for a written reply.
3. Read the acceptance carefully. FCA rules say that if a firm accepts your offer, it must say “formally and unequivocally” that the payment has been accepted as settlement of your liability (CONC 7.14.14R). The letter should name you, the account and the amount, and say the balance will be written off once it is received.
4. Check how it will be reported. Ask the creditor to confirm it will mark the account as partially settled with a zero balance on your credit file, and that the rest of the debt will not be sold or passed to anyone else.
5. Pay by the date given, in a way you can trace, such as a bank transfer or debit card, and get a receipt.
6. Keep everything. StepChange says to keep all settlement letters for at least six years.
7. Check your credit file a couple of months later. If the account still shows a balance, send the creditor a copy of the acceptance letter.

Template: full and final settlement offer

Copy this, fill in the parts in square brackets and remove anything that does not apply. Send it by post with proof of postage, or by email if the creditor accepts email, and keep a copy.

If you use our checker, we may pass your details to a licensed insolvency practitioner or debt adviser.

How does a settlement affect your credit file?

A debt settled for less than the full amount is usually marked as partially settled (sometimes “partially satisfied”), with a nil balance. That tells lenders you cleared the account, but not in full. A debt paid in full is marked satisfied or settled instead.

The entry does not stay for ever. If the account defaulted before you settled, the default still drops off 6 years from the default date. StepChange says a partially settled account is removed six years after it is partially settled, or from the date it defaulted if that was earlier. For more, see how long a default stays on your credit file.

Is there tax to pay on the amount written off?

For most people settling personal debts, such as credit cards or loans used for everyday spending, the tax rule on released debts does not apply. That rule is aimed at businesses: if you are self-employed and a supplier or lender releases a debt that you claimed as a business expense, the amount released can count as a receipt of your business, and so be taxed, unless it is released as part of a formal insolvency arrangement such as an IVA. If the debt is linked to your business, or is owed to your own company, check with an accountant before you settle.

What about token payments?

If you cannot raise a lump sum, a token payment is a small regular amount, often £1 a month, paid to show you are engaging while you cannot afford more. FCA rules say that lenders should consider accepting no payments, reduced payments or token payments for a reasonable period from a customer who shows that paying more would mean not meeting priority debts or essential living costs.

Token payments are not a long-term solution. The balance barely moves, interest may continue unless the creditor freezes it, and the account can still default. They are best used while you get advice, or while your circumstances settle. Some people later make a settlement offer on an account that has been on token payments for a long time.

Is a settlement the right tool for you?

That depends on how many debts you have and how much you could raise. A settlement suits one or two debts and a realistic lump sum. If you owe several creditors and have no lump sum, a debt management plan or a formal option may fit better. Debt solutions compared sets them side by side, and a debt adviser can go through which are open to you.

What to do next

1. Check your priority bills are covered and the debt is correct and in time.
2. Work out a lump sum you can afford while keeping a small buffer.
3. Send a written offer using the template, and wait for written acceptance before paying.
4. Keep every letter for at least six years and check your credit file afterwards.