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What Is Credit Counseling – How Debt Management Plans Work

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 while wondering how you’re going to make ends meet each month.

Fortunately, there are plenty of places you can turn to help pay down your debt.

One popular option is to work with a nonprofit credit counseling agency. Credit counseling agencies offer a variety of credit- and debt-related services, but their signature offering is the debt management plan (DMP) — a legally binding agreement that allows the agency to negotiate and pay down your debts on your behalf.

What Is Credit Counseling?

Credit counseling is the term for a collection of money management and debt reduction services provided by certified personal finance professionals.

The organizations that provide credit counseling services are known as credit counseling agencies. Many are incorporated as private nonprofits, but some are for-profit businesses.

Credit counseling agencies typically do some or all of the following:

  • Offer one-on-one consultations where you can discuss your specific financial situation and concerns
  • Provide specific advice about managing your finances and paying down your debts
  • Help you create a household budget
  • Provide your credit report and score for free
  • Provide free personal finance education resources online or in print
  • Sponsor free or low-cost personal finance workshops, either virtual or in-person (or both)

But the core service most credit counseling agencies provide is the debt management plan. It’s usually the biggest driver of income for credit counseling shops, whether they’re nonprofit or for-profit.

What Is a Debt Management Plan?

A debt management plan is an agreement between you and your credit counselor to pay off some or all of your debts within a specific timeframe.

The debts that you agree to pay off are known as “enrolled debts.” They’re unsecured debts, like credit card and personal loan balances. You can’t enroll secured debts (such as a mortgage) or student loans in a debt management plan.

Your counseling agency acts 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. 

As part of the plan, you must make a monthly deposit into an escrow account. Your credit counseling firm uses these funds to pay your creditors and collect fees for its services. 

How Much Does a Debt Management Plan Cost?

All debt management plans come with fees. The most common are setup fees, which you pay to begin the plan, and monthly maintenance fees, which cover the credit counseling agency’s expenses as it negotiates with your creditors.

The setup fee is a one-time charge that’s usually under $100. The monthly maintenance fee typically ranges from less than $50 to $100, depending on how much debt you have and how many creditors are involved. 

Under the Federal Trade Commission’s Telemarketing Sales Rule, your credit counseling agency must disclose these fees before you sign onto the plan. They also can’t collect any fees until you’ve made at least one payment to a participating creditor. 

How Long Does a Debt Management Plan Take?

Depending on the size of your debts and your ability to pay, your debt management plan could take between two and five years to complete. Your credit counselor may allow you to pay more than your agreed-upon monthly payment, shortening the actual length of the plan. But don’t believe credit counselors who promise debt freedom in a matter of months.

Will a Debt Management Plan Hurt Your Credit?

Enrolling in a debt management plan will probably hurt your credit score. Most credit counseling agencies require you to cancel participating credit cards, with the exception of one card for emergencies and other debt accounts. That’s almost certain to decrease your score. 

It’s impossible to say how serious the effect will be or how long it will last. But the length of your credit history determines 15% of your FICO score, so if you’re forced to close older accounts, your credit could take a few years to recover.

Other debt management plan features could affect your credit score too. Many debt management plans forbid you from applying for new loans or credit cards for the duration, which can crimp your cash flow. And all DMPs require hefty monthly payments without interruption. If you fall behind on your payments, your credit report will note the delinquency — a more serious offense than merely canceling old accounts.

People Looking Over Financial Document

What to Do Before Beginning Your Debt Management Plan

Before you begin your debt management plan, 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

What to Do After Your Debt Management Plan Begins

Once your debt management plan begins, closely monitor its progress by doing the following:

  • Make sure 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 your counseling agency is paying them on time.
  • Check your credit counseling agency’s statements against your creditors’ to confirm that any claimed interest rate reductions or fee waivers are real.

Pros & Cons of Debt Management Plans

These are the main upsides and downsides of enrolling in a debt management plan with a credit counseling agency in your area.

Debt Management ProsDebt Management Cons
May help you avoid bankruptcyCan take up to five years to pay off debts
Usually cheaper than professional debt settlement servicesMonthly fees can add up ($50 to $100 per month for several years)
Don’t need to deal with creditors directlyNot all credit counseling agencies are nonprofits (or reputable)
One monthly payment covers everythingCan’t enroll secured debts
Often comes with free or low-cost financial education and supportSome creditors don’t participate
Can increase your credit scoreCan’t use existing credit cards or open new accounts while enrolled
Confidential and voluntaryTemporarily hurts your credit
Small or very large debts may not be eligible

Debt Management Plan Pros

A debt management plan can help you regain control of your finances and eventually pay off your debts. Notable benefits include:

  • Less Dramatic Alternative to Bankruptcy. A debt management plan is a less drastic alternative to declaring bankruptcy. Bankruptcy devastates your credit score and remains on your credit report for seven years or longer, so it’s really a last resort if your financial situation is out of control.
  • Cheaper Than Professional Debt Settlement. Debt management plan fees add up over time, but they’re still usually lower than fees charged by for-profit debt settlement companies. The equivalent of a three-year debt management plan that costs you $3,000 total might cost $5,000 or more with a debt settlement company.
  • No Need to Negotiate With Creditors. Your credit counselor negotiates with and pays creditors on your behalf, so you don’t have to interact with your creditors regularly. You should confirm that the credit counseling agency is making payments on time and in the correct amounts, though.
  • One Monthly Payment Covers Everything. Your debt management plan should have a single umbrella fee that covers monthly payments on all enrolled debts, plus the agency’s fees. Also known as a contribution, this fee is typically paid monthly or biweekly (with each paycheck).
  • May Include Other Useful Financial Services and Education. Most credit counseling agencies offer free or cheap financial counseling, educational materials, and workshops. These add significant value if you’re able to take advantage of them.
  • May Increase Your Credit Score Over Time. Enrolling in a debt management program will probably hurt your credit in the short to medium term. But as you pay off old credit balances over time, your score should recover. If everything goes well, it should be higher when you’re done than when you enrolled.
  • Confidential and Voluntary. Unlike bankruptcy, which is enforced by a court and becomes a matter of public record, a debt management plan is both confidential and voluntary for you and your creditors.

Debt Management Plan Cons

Enrolling in a debt management plan is better than declaring bankruptcy, but it’s not totally free of risks or tradeoffs. Consider these downsides before you enroll.

  • Can Take Several Years to Pay Off Debts. Debt management plans take anywhere from two years to five years to complete, depending on the size of your enrolled debts and how much you can afford to pay toward them. They’re not a quick fix.
  • Monthly Fees Add Up Over Time. That $50 or $75 monthly fee might seem reasonable, but it adds up over time. A $75 monthly fee costs you $3,600 over four years, for example. And that doesn’t account for your actual debt balance payments.
  • Not All Credit Counseling Agencies Are Reputable. You have to be careful when choosing a credit counseling agency. Many are 100% reputable and want nothing more than to help you get out of debt. But others, especially for-profit agencies, have pushy sales teams, tack on junk fees, or don’t do what they promise.
  • Can’t Enroll Secured Debts or Student Loans. Debt management plans are designed for unsecured debts, mainly credit cards. You can’t enroll secured debts like your mortgage or car loan. Nor can you enroll student loans.
  • Not All Creditors Participate. Creditors aren’t obligated to participate in debt management plans. Many do because it’s their best chance of recovering some of what they lent you, but others like to play hardball, daring you to declare bankruptcy.
  • Restrictions on Credit Use While Enrolled. Debt management plans require participants to close enrolled credit card accounts and refrain from applying for new credit for the duration. You may be allowed to keep a single credit card for emergencies, but your total credit limit will be much lower.
  • Temporarily Harms Your Credit. Closing older credit card accounts can hurt your credit score. The effect isn’t as drastic as declaring bankruptcy or stopping payment on open accounts, as debt settlement companies require. But it’ll still take your score down a few notches.
  • Small or Very Large Debt Loads May Not Be Eligible. Most credit counseling agencies require a minimum amount of enrolled debt, typically between $2,000 and $10,000. Many cap enrolled debt at $50,000 or higher. So if you’re struggling with too much or too little unsecured debt, you might have trouble finding a debt management plan that will take you.

Is a Debt Management Plan Right for You?

Debt management plans aren’t right for everyone. But the budgeting advice provided by reputable credit counseling agencies is helpful, even if you don’t have serious debts.

If you answer “yes” to the following questions, look for a suitable alternative to a debt management plan. You can still take advantage of other services offered by nonprofit credit counseling agencies.

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 many 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 you can create a sustainable budget, pay off your credit card debts, rebuild your credit score, and create a plan for future financial emergencies on your own, a debt management plan probably isn’t necessary.

Couple Reviewing Their Finances

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 your old habits.

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

  • Cutting back on nonessential expenses, such as restaurant meals and nights out with friends
  • Reducing or cutting out expensive habits, such as tobacco and alcohol use
  • 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)

These changes can significantly improve your financial situation in the short to medium term. Whether they solve your debt problems for good depends on how overwhelming your debts have become and how committed you are to debt freedom.

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 or auto loan 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 debt management plan 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 score and the monthly plan payments might be worth it.

Alternatives to Debt Management Plans

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. Apply for a Debt Consolidation Loan

A debt consolidation loan is a type of refinancing tool that rolls your existing debts into a single bundle. It’s akin to a credit card 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.

2. Apply for a Balance Transfer Credit Card

A balance transfer credit card can significantly reduce your interest burden and help you pay off your debts faster. It’s the best solution for small to moderate credit card debt that’s costing you a fortune in interest.

There is a catch. 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 at least 15% (and often more like 20% or 25%) after the introductory period. The only way to avoid this is to pay off the entire amount of your balance transfer before the intro period ends.

3. Negotiate Directly With Your Creditors (DIY Debt Settlement)

Although they don’t like to publicize it, many creditors negotiate with borrowers. They’d prefer to get back at least some of the money they lent you rather than 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. The lender won’t open negotiations on its own.

DIY debt settlement can and probably will hurt your credit score. If you can, exhaust the options above first.

4. Work With a Debt Settlement Provider

Don’t have the time for DIY debt settlement? Hate negotiating? Pay a debt settlement provider to do the dirty work for you.

Debt settlement providers negotiate directly with your creditors to reduce your outstanding balances. Like credit counselors with debt management plans, they set up escrow accounts for you to fund the settlements.

Debt settlement providers are bound by the same regulations that govern credit counseling agencies. However, 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 because you need to stop making payments on the accounts the provider is negotiating.

5. Declare 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 insurmountable 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. But sometimes bankruptcy is the only option left.

Other Services Offered by Credit Counseling Agencies

Even if you face serious debt, you should exhaust options that won’t affect your credit score as much as a debt management plan might. You should also submit to a thorough financial evaluation before beginning the process. 

You can get information about these other options and get that financial evaluation through your credit counselor. Before encouraging clients to enroll in a debt management plan, agencies accredited by the National Foundation for Credit Counseling (NFCC) generally offer these services for free or for a low one-time payment:

  • Initial Consultation. When you contact them, legitimate credit counseling organizations typically 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.
  • Money Management Advice. Money management advice is a hallmark 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.
  • Budgeting Support. Your credit counseling agency representative can educate you on basic budgeting and personal finance concepts. They can also help you draw up a household budget that makes it easier for you to pay down your debts.

Where to Find Credit Counseling Help

You can get credit counseling services, including debt management plans, in any number of places. But 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 an agency will be aboveboard. Nonprofit status and sales tactics are more important metrics.

These are some good places to start.

1. The National Foundation for Credit Counseling

The NFCC has high 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, which is a potentially abusive tactic. They must receive accreditation from the organization before promoting themselves. And all of their employees must be certified as credit counseling specialists.

2. 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.

3. 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 for resources in your area.

Your state’s commerce department might keep a list of reputable credit counseling agencies too. Mine does, along with helpful guidelines (and warnings) about choosing and working with a credit counselor.

4. 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 give are 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.

5. 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.

6. The U.S. Trustee Program

A division of the U.S. Department of Justice, the U.S. Trustee Program 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.

7. 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 geared toward rural residents, but it’s 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.

8. 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.

9. 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.

Woman On Phone With Document

Tips to Avoid Credit Counseling 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 mean the agency is aboveboard. Some nonprofit credit counseling agencies use underhanded tactics to squeeze more money out of their clients. So it’s important to be vigilant about potential credit counseling scams.

Credit Counseling ScamHow to Avoid It
Demanding upfront paymentRemind them that the law prohibits this
Refusing to say how much they chargeDemand a fee schedule and get the max monthly fee in writing
Unaccredited service providersLook up their accreditation and funding source
Poor security or marketing practicesReview their privacy and security policies
Commission-based salesAsk how their employees are compensated and avoid commission-based agencies
Pressure to enroll in debt management planAsk for other options first and go elsewhere if they refuse
Too-good-to-be-true claimsGo to another agency

Follow these guidelines to steer clear of sketchy credit counselors and avoid paying more than you should.

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.

Another important point: Credit counselors that sell services by phone aren’t allowed to collect debt management plan fees until they’ve completed negotiations with all participating creditors and accepted your first monthly deposit into the plan. This includes startup and monthly maintenance fees. Collecting fees ahead of schedule is illegal under the Federal Trade Commission’s Telemarketing Sales Rule.

2. Get a Fee Schedule

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.

Many credit counseling agencies provide budgeting help at no cost to participants. Some also subsidize workshops, classes, and one-on-one consultations. They may also reduce debt management plan fees for clients facing hardship.

3. Confirm That They’re Accredited & Demand Transparency

Be skeptical of agencies that aren’t certified by an outside organization like the Association of Independent Consumer Credit Counseling Agencies (AICCCA) or NFCC. Ensure that their employees are certified by these organizations or have relevant financial training as well. 

Always confirm the source of an agency’s funding too. NFCC members, which receive the bulk of their funding from creditors participating in debt management programs, are required to disclose this information.

4. Ask for a Written Assurance of Privacy & Security

Don’t work with agencies that won’t agree to keep your financial and personal information secure and confidential. Reputable agencies should spell out in detail what steps they take to protect your information. Many have dedicated “Security” or “Privacy” webpages.

5. Investigate Employees’ Compensation

Be cautious about working with agencies that incentivize their employees with commissions for selling debt management plans or other services. Hourly or salaried employees are more likely to have your best interests in mind. If it’s not clear how a credit counseling agency compensates its employees, ask.

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. At agencies that earn most of their income from DMPs, credit counselors have every incentive to push you into plans you might not need.

7. Be Skeptical of Claims That Seem Too Good to Be True

Avoid organizations that claim to:

  • Repair your credit score immediately
  • Get rid of your debts in just a few months
  • Keep information about past credit problems (such as late payments or repossessions) from future creditors

These things aren’t possible. Anyone who tells you otherwise is suspect, and you should avoid working with them.

Final Word

Before you enroll, talk to multiple credit counseling agencies to make sure a debt management plan is right for you. You should also create a frugal but sustainable personal budget, with or without a credit counselor’s help, and commit to following it.

This might involve some sacrifices, such as cutting back on vacations or restaurant meals, but it’ll pay off.

And if you’re already behind on multiple credit cards or other debts, seek help from a debt management plan now, then work on your budget once you’re already enrolled. Wait too long and you might have no choice but to take more drastic action, such as filing for bankruptcy.

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.