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What Is Credit Counseling – How Debt Management Plans Work


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There are a number of reasons people get into debt. Whether you’ve dealt with insufficient income and mounting bills for years, or face a new, unexpected challenge such as a big medical expense or a lost job, it can be frustrating to watch the interest pile up on your unpaid obligations – and to wonder how you’re going to make ends meet each month.

A billion-dollar industry, led by nonprofits and government agencies as well as for-profit companies, exists to help Americans address their debt problems. Some of the services available to folks who struggle with debt include loan refinancing, debt consolidation loans, debt settlement services, and credit counseling. Many Americans choose to address mounting debt on a DIY basis, taking out unsecured personal loans to pay off higher-interest debt and roll their disparate obligations into a single monthly payment.

Debt Management Plans: Credit Counseling’s Core Service

Many different organizations offer credit counseling services. Many, though not all, have nonprofit or public status. They may be standalone agencies that only offer credit counseling services or divisions of larger entities, such as credit unions, universities, and military bases. Some for-profit banks also offer credit counseling services.

Many people come to credit counseling agencies to establish a debt management plan (DMP) to pay down unmanageable debt. Although it’s not recommended for everyone, this can be a useful credit counseling feature.

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A DMP is a binding, written agreement between you and your credit counselor to pay off some or all of your debts within a specific timeframe. Once you enroll, your counseling agency will act as the intermediary between you and any creditors included in the plan. The counseling agency may negotiate interest rate or penalty fee reductions with some or all of your creditors, although this isn’t guaranteed. You must make a regular, monthly deposit into an escrow account, which your credit counseling firm taps to pay your creditors.

What Does It Cost?

DMPs come with fees, such as initial charges and monthly maintenance fees. For instance, the nonprofit agency GreenPath Debt Solutions charges a setup fee of $50 or less and a monthly fee of $75 or less. (Your monthly payment depends upon the size of your debts and number of creditors involved in the plan). These fees can’t legally be collected until you’ve made at least one payment to a participating creditor.

Benefits and Drawbacks

Depending on the size of your debts and your ability to pay, your DMP could take between two and five years to complete. Though your credit report will note that a credit counseling agency is paying debts on your behalf, the mere fact that you’re enrolled in a DMP won’t directly affect your FICO score.

However, most credit counseling agencies require you to cancel participating credit cards, with the exception of one card for emergencies and other debt accounts. This is likely to cause your score to drop. It’s impossible to say how serious the effect will be or how long it will be for. But since the length of your credit history determines 15% of your FICO score, with a longer history translating to a higher score, the hit will be more painful if you’re forced to close older accounts.

Furthermore, many plans forbid you from applying for new loans or credit cards for the duration. And all DMPs require hefty monthly payments without interruption. As with other debts, falling behind on your DMP payments can have a more dramatic effect on your credit score.

Credit Benefits Drawbacks

Ongoing Considerations

Before you begin your DMP, you have to agree to its terms in a legally binding contract. Don’t sign anything without confirming the following:

  • How long the plan will take
  • Which debts are included
  • How you’ll access your account, e.g. online, by phone, or by mail
  • How the plan will affect your credit – be skeptical of claims that it won’t have a negative impact, especially if you have to cancel participating credit cards
  • How and when your creditors will be paid each month

Once your DMP begins, closely monitor its progress. Make sure that each creditor has agreed to participate before you stop paying them directly and begin making your monthly DMP deposits. Keep checking in with your creditors every month to ensure that your counseling agency is paying them on time. And check your credit counseling agency’s statements against your creditors’ to confirm that any claimed interest rate reductions or fee waivers are real.

Other Services Offered by Credit Counseling Agencies

Unlike bankruptcy, which is enforced by a court and becomes a matter of public record, a DMP is both confidential and voluntary for you and your creditors. But even if you face serious debt, you should exhaust options that won’t affect your credit score as much and submit to a thorough financial evaluation before beginning the process. If your credit counselor pushes you to enroll before offering other options, including a personalized household budget, be skeptical.

In addition to debt management plans, credit counseling organizations offer several other services:

  • Initial Information and Consultation. When you contact them, legitimate credit counseling organizations generally send you free information about their services. Once you provide some basic background about your situation, they’ll also schedule a free consultation to look more closely at your finances. Be skeptical of organizations that don’t offer these services for free.
  • Budgeting Support. Budgeting and money management advice are hallmarks of credit counseling. Many counseling organizations offer this support via one-on-one consultations with a representative, group seminars and workshops (which may require an additional fee), and printed or digital educational materials. You should also have access to a personalized monthly budget, usually drawn up by a certified representative in close consultation with you. In general, your credit counseling agency should give you a much better grip on basic budgeting and personal finance concepts.

Reputable organizations should encourage you to try other services before signing you up for a debt management plan. Agencies accredited by the National Foundation for Credit Counseling (NFCC), an arbiter of nonprofit credit counseling services, generally offer these services for free. Those that aren’t accredited, including for-profit agencies, may charge for certain counseling services.

Determining Whether a Debt Management Plan Is Right for You

Debt management plans aren’t recommended for everyone. But the budgeting advice provided by reputable credit counseling agencies is broadly applicable, even if you don’t have serious debts. Just sitting and talking with someone who understands personal finance can be immensely helpful if you live paycheck to paycheck but haven’t descended into a vicious cycle of unpaid obligations.

If you answer “yes” to the following questions, you should stick to non-DMP credit counseling services or look for another suitable alternative to a debt management plan.

1. Can You Do It on Your Own?

A debt management plan isn’t a magic bullet. Although it can be helpful to consolidate your disparate obligations into a single monthly payment and put some distance between you and your creditors, a debt management plan requires monthly payments and could hurt your credit score. If you’re confident that you can create a sustainable budget, pay off your credit card debts, rebuild your credit rating, and create a plan for future financial emergencies on your own, a DMP probably isn’t necessary.

Debt Management Plan

2. Are You Unable to Commit to a Long Process?

To be truly effective, a debt management plan requires you to commit to a course of action and maintain discipline for the long haul. When your counselor presents you with a personalized budget to pay down your debts and begin saving for the future, you can’t just follow it for a few weeks and then go back to old habits.

Getting out of debt takes time and demands some sacrifices, such as the following:

  • Cutting back on nonessential expenses, such as restaurant meals
  • Reducing or cutting out expensive social habits such as smoking and drinking
  • Eliminating unnecessary online shopping purchases
  • Trading in a newer, more expensive car for one with a lower payment (or reducing your household’s car count from two to one)
  • Saving money on groceries, such as by purchasing generic food items
  • Taking fewer, shorter leisure trips, if you can realistically afford to take any at all

With discipline, these changes don’t have to be permanent – but they may be integral to solving your immediate debt problems.

3. Would an Alternative Suit You Better?

Even if you have unmanageable debts, a debt management plan might not be the best solution. If a crushing mortgage, auto loan, or other secured obligation is the primary issue, speak directly to your lender about refinancing options that could lower your monthly payments without pushing you into default.

Alternatively, simply take advantage of your credit counselor’s budgeting and planning services. They can’t pay off your debts for you, but they might give you a fresh look at your personal finances.

However, it’s important to recognize when a DMP is the best alternative. If you’re behind on multiple credit card payments, can’t find additional fat to cut in your budget, and worry that bankruptcy might be in your future, the temporary hit to your credit rating and monthly plan payments might be worth it.

Alternatives to DMPs and Credit Counseling

Enrolling in a debt management plan is just one of several popular options for consumers who struggle with debt. If you don’t think it’s right for you, you can explore a number of other options:

1. Negotiating Directly With Your Creditors

Although they don’t like to publicize it, many creditors negotiate with borrowers. After all, no one likes to take a total loss on their investment. You need to initiate this process by calling your loan officer or credit card’s customer service team.

2. Debt Consolidation Loans

A debt consolidation loan is a type of refinancing tool that rolls your existing debts into a single bundle. This is akin to a balance transfer: If you have $15,000 in total credit card debt from five different institutions, your loan will begin with a $15,000 balance. It may come with a lower interest rate than your old credit card bills, although this depends on your credit history and whether you secure the loan with collateral (such as your house).

Depending on your credit rating and history, you may be able to get a debt consolidation loan from a bank or credit union. Specialized finance companies, such as OneMain Financial, also offer these loans. If your credit isn’t great, a peer-to-peer lending service such as Lending Club may be a good option too.

3. Balance Transfers

If you can commit to paying them off within a certain timeframe, transferring high-interest credit card balances to cards with lower interest rates can significantly reduce your debts’ long-term cost. But if rates rise on the new card, you could end up back where you started. Many credit card companies entice customers with 0% APR for 18 to 24 months on newly issued cards, with rates rising to 15% or 20% after the introductory period.

4. Debt Settlement

Debt settlement providers negotiate directly with your creditors to reduce your outstanding balances, providing escrow accounts (similar to debt management plans) for you to fund each settlement. These companies are bound by the same regulations that govern credit counseling agencies, but most are for-profit, and therefore more likely to take a larger share of their clients’ savings. Like a debt management plan, debt settlement can seriously affect your credit score.

5. Bankruptcy

Depending on the severity of your debts, bankruptcy might be your best option. Moderate debt problems might be solved by Chapter 13 (reorganization), while intractable burdens may require Chapter 7 (liquidation). Either choice can damage your credit score, drain some of your savings, and require you to part with certain assets.

Alternative Dmp Credit Counseling

Where to Find Help

Credit counseling services, including debt management plans, are available from a wide range of nonprofit sources. As with any important financial decision, it’s best not to choose your agency in a hurry. Remember that a lack of past complaints doesn’t guarantee that an agency will be above-board.

These are some good places to start:

1. Your Local Credit Union

If you or a family member belong to a credit union, talk to a representative about what (if any) credit counseling services it offers. If there’s nothing available in-house, you may be referred to a reputable outside agency.

2. Your Military Base

Although credit unions such as Navy Federal offer credit counseling services to military members and their families, military bases (or armed forces branches in general) don’t directly provide them. However, military families can find reliable data about local credit counseling agencies, including those that offer military discounts or fee waivers, at their base’s financial services office. If you’re considering joining the military with a substantial debt load on your personal books, this is something to keep in mind.

3. Your State or Federal Housing Authority

The U.S. Department of Housing and Urban Development (HUD) contracts with local housing authorities to provide free or low-cost credit counseling services to homeowners. The advice and budgeting support they provide is geared toward helping people avoid falling behind on their mortgages and risking foreclosure, but they’re qualified to speak about general personal finance issues too.

4. The National Foundation for Credit Counseling

Like AICCCA, the NFCC maintains rigorous quality standards for its nonprofit members. NFCC members are prohibited from soliciting potential customers with pre-screened offers (similar to pre-screened credit card offers) for debt management plans, a potentially abusive tactic, and must receive accreditation from the organization before promoting themselves. Furthermore, all member employees must be certified as credit counseling specialists.

5. Financial Counseling Association of America

The Financial Counseling Association of America (FCAA) is the only credit counseling trade group that’s open to for-profit organizations. Although its main function is political advocacy, it can also connect you with credit counseling agencies that don’t advertise elsewhere.

6. State and Local Consumer Protection Offices

All state governments, and many counties and cities, maintain consumer protection bureaus that evaluate for-profit and nonprofit credit counseling agencies. Check your local and state government websites.

7. The Better Business Bureau

The Better Business Bureau (BBB) compiles data, complaint histories, and client feedback about the country’s independent credit counseling agencies (both for- and nonprofit), as well as the larger organizations that offer credit counseling services. Check online or with your local branch for information about local options.

8. The United States Trustee Program

A division of the U.S. Department of Justice, the USTP maintains a database of every nonprofit credit counseling agency that offers pre-bankruptcy counseling services. Each entry has contact information, service listings, and feedback from former customers.

9. The U.S. Cooperative Extension System

A division of the U.S. Department of Agriculture (USDA), the U.S. Cooperative Extension System (USCES) is a financial education network that’s geared towards rural residents, but is available to anyone. Its local offices, which exist in every state, don’t directly provide debt management services, but they can connect you with reputable organizations that do – along with other financial products and services of interest to rural folks, such as USDA mortgage loans.

Tips to Avoid Scams

As purveyors of budgeting support, financial planning services, and advice about debt, most credit counseling services are reputable and well-meaning. But the debt management plans offered by many credit counselors can negatively affect your credit rating. And nonprofit status doesn’t automatically confer respectability – some agencies may use underhanded tactics to squeeze more money out of their clients.

To avoid falling prey to a scam, keep these tips in mind:

1. Don’t Pay for Anything In Advance

Don’t work with agencies that require you to pay for a financial evaluation before receiving information about its services. Respectable credit counselors provide information about what they do – and how to manage your money – before charging fees or subjecting clients to invasive evaluations. Also, credit counselors that sell services by phone aren’t allowed to collect debt management plan fees, including start-up and monthly maintenance fees, until they’ve completed negotiations with all participating creditors and accepted your first monthly deposit into the plan. Doing otherwise is illegal under the Federal Trade Commission’s Telemarketing Sales Rule.

2. Get a Fee Schedule

Many credit counseling agencies provide budgeting help at no cost for all participants, and some also subsidize workshops, classes, and one-on-one consultations. They may also reduce debt management plan fees for clients who face hardship. Avoid organizations that aren’t straight about what they charge, and before you enroll in a debt management plan, ensure in writing that you’ll never have to pay more than a certain amount per month.

3. Confirm That They’re Accredited and Demand Transparency

Be skeptical of agencies that aren’t certified by an outside organization like the AICCCA or NFCC. Ensure that their employees are certified by these organizations or have relevant financial training as well. And always confirm the source of an agency’s funding – NFCC members, which receive the bulk of their funding from creditors that participate in debt management programs, are required to disclose this information.

4. Ask for a Written Assurance of Privacy and Security

Don’t work with agencies that won’t agree to keep your financial and personal information secure and confidential.

5. Investigate Employees’ Compensation

Be cautious about working with agencies that incentivize their employees via commission to sell debt management plans or other services. Hourly or salaried employees are more likely to have your best interests in mind.

6. Understand That Debt Management Plans Aren’t the Only Answer

If your chosen credit counseling agency tries to push you into a debt management plan without providing other services first, talk to other agencies and see if they do the same. A DMP is the most lucrative service for agencies, so overly pushy credit counselors may be looking out for their own bottom line, not yours.

7. Be Skeptical of Broad Claims

Avoid organizations that claim to be able to repair your credit score immediately, get rid of your debts in a few months, or keep information about past credit problems (such as late payments or repossessions) from future creditors. These things aren’t possible.

Avoid Scam Tips

Final Word

Before you enroll, talk to multiple credit counseling agencies – and other financial professionals, if possible – to make sure a DMP is right for you. You should also create a frugal but sustainable personal budget and commit to following it. This might involve some sacrifices, such as cutting back on vacations or restaurant meals, but it will be worth it. And if you’re already behind on multiple credit cards or other debts, it may be best to seek help from a DMP now – rather than wait until you need to take even more drastic action, such as filing for bankruptcy – and work on your budget once you’re already enrolled.

Have you or a family member ever used a nonprofit credit counseling service? Would you recommend the experience, or is it better to tackle debt by other means?

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Brian Martucci writes about credit cards, banking, insurance, travel, and more. When he's not investigating time- and money-saving strategies for Money Crashers readers, you can find him exploring his favorite trails or sampling a new cuisine. Reach him on Twitter @Brian_Martucci.