- Credit counseling agencies offer debt management plans to help consumers pay off debt.
- Your credit counseling agency negotiates the terms of your debt with your creditor, lowering interest rates and other fees.
- Credit counseling is great for people with subpar credit and high-interest credit card debt.
A debt management plan is a structured plan to repay unsecured debts (credit cards, medical bills, personal loans, etc.) If you find yourself struggling with large amounts of debt, a debt management plan can provide a structured solution that can result in debt consolidation, lower interest rates, and a manageable repayment plan.
There are myriad of solutions geared towards tackling this issue. You can find plenty of payment strategies such as the debt avalanche or snowball method, which focus on how to allocate your funds across multiple debts. Additionally, you can try consolidating your debt.
The best consolidation loans will get you a lower interest rate while simplifying your debts, but your rates will hinge on your credit score. However, if you don't have the credit score necessary to qualify for this, you may consider a debt management plan, which can provide relief in a grim financial situation.
How debt management plans work
Credit counseling
Debt management plans are a service that nonprofit credit counseling agencies offer their clients "that can help financially struggling consumers get out of debt and achieve financial stability," says Bruce McClary, nonprofit credit counselor and Senior Vice President of Membership and Communications of the National Foundation for Credit Counseling (NFCC). You will work with your credit counselor to assess your financial situation and create a DMP specific to your financial situation.
Negotiation with creditors
In a debt management plan, a credit counselor negotiates with your creditor on your behalf. These negotiations are an attempt to secure lower interest rates and fee waives on your unsecured debt. They may also negotiate lower monthly payments in exchange for a longer payment period.
Timeline
Once your debt management plan has been established, you'll make one monthly payment to your credit counselor, who'll distribute your payment to those creditors. Debt management plans usually take about four to five years to complete, according to McClary.
Fees and costs
Nonprofit credit counseling agencies typically charge a small fee for this service. You'll pay a set-up fee ranging from $30 to $50 and a monthly maintenance fee from $20 to $70, according to Experian. However, a debt management plan can help you save money on interest in the long run.
Monthly payments
While on a debt management plan, it's crucial that you make your payments each month. Missing a payment may cause your creditor to back out of the agreement. Missing several payments in a row will cause the credit counseling agency to terminate the plan.
Debt management plan drawbacks and considerations
A debt management plan is an excellent repayment tool if your debt is weighing you down and you need a credit counselor to provide guidance and keep you accountable. However, this program has its share of downsides to consider.
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Does a debt management plan affect your credit score?
The existence of a debt management plan will not directly affect your credit score, but your credit score may change as a result of any actions taken over the course of the debt management plan.
Closing credit accounts
As part of the debt management program, your credit counselor may ask you to close your credit accounts. Doing so can negatively impact your credit score if you close it with an outstanding balance on your account.
Additionally, if you shut down one of the longer-standing accounts on your file, it may have an impact on your length of credit history. It will also have an impact on your available credit, which can impact your credit utilization ratio.
Building positive payment history
One of the perks of a debt management plan is that you only need to make a single payment, making paying your debt more manageable so you're less likely to miss a due date. Debt management plans can also lower your monthly payments which can be helpful if you're struggling to come up with the funds each month, making a credit delinquency less likely.
Lowering credit utilization
As you pay off your debt, specifically on your revolving credit accounts, your credit utilization ratio will lower. You generally want to keep this ratio under 30%, though the lower you can keep your utilization ratio, the better your credit score will be.
Who should consider a debt management plan?
A debt management plan may make sense if you're overwhelmed by debt, particularly unsecured debt and struggling to make the minimum payments. "Generally, DMPs may be a good fit for individuals with high-interest credit card debt who are at risk of falling behind with payments," says McClary.
On the other hand, he says that those with good credit and less trouble managing their debt may opt out of a debt management plan. Instead, they should consider a low-interest debt consolidation loan or a balance transfer credit card. Learn more in Business Insider's guide to the best balance transfer credit cards.
Additionally, a debt management plan may not be suitable for you if you don't have unsecured debt because debt management programs won't cover secured loans.
"Collateralized debt such as auto loans and mortgages cannot be included," says McClary. "Ultimately, the decision on which option to choose should be based on individual circumstances and guidance from a nonprofit credit counseling agency."
Alternatives to debt management plans
There are a few reasons why someone may not want to use a debt management plan. If you don't want to commit to a 4 to 5 year timeline, you may have good credit and consider other options or you are not having trouble making payments, but want the debt resolved.
A few alternatives to DMPs are:
Debt consolidation loans: You can consolidate all debts into a single loan with a lower interest rate and one monthly payment.
Debt settlement: Negotiate with creditors to settle for less than the full amount owed, this is a good way to resolve the debt and move on from it.
Bankruptcy is a legal process to eliminate or restructure debt, but it has long-term consequences that can impact your credit score and access to credit.
Frequently asked questions about debt management plans
A debt management plan lowers your interest rates and simplifies your debts into a single monthly payment. You'll give this payment to a credit counselor who distributes the money among your creditors.
A debt management plan may only be ideal for some. This program only works for those who need help paying off unsecured debt instead of collateralized debt. Additionally, you'll have to pay an upfront and monthly fee for this service.
Yes, you can still use your credit cards while on a DMP if you have not closed those accounts (your credit counselor may advise you to do so), but you may find yourself back in debt, which would defeat the purpose of the DMP.
Yes, you can create a debt management plan yourself. You can negotiate interest rates and fees directly with your creditors, though results will vary depending on your credit profile. There are also debt management apps like Tally that will automatically distribute a single payment across multiple debts.
