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What is a debt management program?
A debt management program (also called a debt management plan or DMP) is an assisted debt repayment plan. You sign up for the program voluntarily through a credit counseling agency. They help you find a consolidated monthly payment that works for your budget. Then they negotiate with your creditors to reduce or eliminate interest charges applied to your debts. This allows you to get out of debt faster even though you typically pay 30 to 50 percent less each month.
A DMP is basically the only way to consolidate debt if you have a bad credit score. It also works more effectively for high volumes of debt than other solutions. So, if a balance transfer or consolidation loan won’t work, this program may still be able to help you. Clients have even successfully completed the program to eliminate more than $100,000 of credit card debt.
How debt management programs work
- First you contact a credit counseling agency for a free evaluation
- They check your debt, budget and credit to see where you stand and to determine which solutions will work best in your situation.
- If your best option is a debt management plan, they help you find a payment that works for your budget.
- There is no requirement to include all your credit cards, although it’s usually recommended; some people keep one card out for emergencies.
- Then they call each of your creditor to negotiate on your behalf. The goal is to:
- Reduce or eliminate interest charges
- Stop penalties and late fees
- Delay collection actions, where the creditor writes of the debt and gives it to a third-party collector
- Once your creditors sign off they freeze your accounts, meaning you can’t make any new charges. After you complete the final paperwork, your plan starts.
- Each month, you make one payment to the credit counseling agency; they distribute the funds amongst your creditors as agreed.
- You can monitor your credit card account balances while you’re enrolled to watch the progress as your balances decrease.
- Once every debt is paid off in-full, you complete the program. If you choose to do so, you can start using your credit cards again and apply for new credit.
What types of debt can I include in a DMP?
Debt management programs work for more than just credit cards. Here are all the types of debt you can include in a DMP:
- Credit cards
- Store credit cards and in-store credit lines
- Gas cards
- Debt collection accounts
- Unpaid medical bills
- Payday loans
- Unsecured debt consolidation loans
- Unsecured personal loans
However, keep in mind that your enrollment is voluntary, both for you and your creditors. Once you find a payment that works, your creditors must sign off on the adjusted payment schedule. They are not required to do so.
Most major credit issuers and retailers have established relationships with accredited credit counseling agencies. They know the programs work, so they readily sign off. By contrast, some smaller debt collection agencies and payday lenders may not have established relationships. So, sign off is not guaranteed.
Still, if one creditor refuses to let you include in their debt in your DMP, you can still enroll with the others. In addition, since the program reduces total monthly payments, you should be easier to afford your other debt payments. Your credit counselor will also help you set up a budget that doesn’t rely on credit cards to stay afloat.
Important notes about financing during your enrollment
As noted above, creditors will freeze any accounts that you include in the program. You can’t make any new charges until you graduate or drop out (more on this below). You also won’t qualify for any new credit cards during your enrollment.
However, you can apply for loans. This means you don’t have to delay buying a home or getting a new car if you need one. As long as you qualify during underwriting, the DMP won’t affect your ability to get approved.
Debt management program fees
First, it’s important to note that debt management programs can be administered by for-profit and nonprofit credit counseling agencies. Nonprofit agencies don’t make revenue off DMP fees; instead, they operate using grant money from major credit card issuers. Since these agencies are 501(c)3 nonprofit organizations, they don’t set their own fee structures.
Instead, fees are set by state regulators who oversee consumer affairs like these. Fees vary by state, but the current highest cap is $79. The fee you pay individually is usually based on how much debt you have and the payments you can afford to make. This generally includes a one-time setup fee and a monthly maintenance fee. All fees are rolled into the monthly payments you make to the agency.
By contrast, for-profit credit counseling agencies are not controlled by state regulations. The agency may even charge an upfront fee for your initial consultation (this is free with nonprofits). You often pay a higher rate for a DMP with a for-profit agency, although they may provide other services.
For our part, Debt.com only connects you with nonprofit credit counseling agencies. This means DMP fee are usually lower and set by state regulation. You can ask your credit counselor about the DMP fee structure for your state.
Credit effects of a debt management program
Most people’s primary concern with a DMP is that it will have a negative impact on their credit score. However, if a plan is executed correctly, that’s usually not the case. At most, completing the program will have a neutral effect on your credit. In truth, most people who enroll see their credit improve over the course of the program.
How can a debt management program improve my credit score?
There are five basic factors that go into your credit score calculation. The most important is credit history and it accounts for 35% of the weight in your score. The second biggest factor is your credit utilization ratio; this measures the amount of credit you currently use relative to your total available credit line. Completing a debt management plan improves both these factors.
You build a positive payment history as long as you make each DMP payment on time. DMP payments count as qualified payments on each of your accounts because your creditors sign off on the adjusted payment schedule; so, they agree to take reduced payments.
You also improve your credit utilization ratio. To determine your ratio, divide your total current balance by your total available credit line (i.e. add up your limits). For example, if you have a $5,000 balance and a $12,000 credit limit then your ratio is 42 percent. Lower is always better with credit utilization. The closer you are to zero, the better your score. So, by eliminating debt through a DMP you decrease your ratio to zero.
What happens if I drop out of a DMP?
Enrollment is always voluntary, so you can drop out anytime you choose. All payments made to your creditors still count, so your balances will be lower than when you started. That’s beneficial, because it means you don’t “lose” those payments if you decide to leave the program.
Just be aware that your creditor will likely restore the original interest rate of your account. If your rate was 22% APR and the counseling team negotiated it to 2%, it will jump back up to 22% when you drop out. In some cases, the creditor may also reapply penalties that were stopped when you enrolled.
What happens if I can’t make a payment?
Missing payments on your program can cause you to get kicked off. This means you would face the same consequences listed above as if you’d dropped out. Your interest rates would reset and your creditor may reapply penalties; any payments made would be credited to your accounts.
If you run into trouble and believe you may miss a payment, don’t hide. Call your credit counseling agency immediately. Often, if you let them know early enough they can help you arrange to delay payment or reduce your payment. At the very least, they can work with you to ensure you stay on the program. But they can only help you if you call them and try to work something out.
Debt management vs debt settlement
People often think a debt management plan is the same as a debt settlement plan. But it’s important that you don’t confuse these two relief options, because they are very different. A DMP pays back everything you owe in a more efficient way with reduced interest charges. A DSP pays off only a percentage of what you owe – “pennies on the dollar.”
The main difference is what this does to your credit. Since a DMP pays off what you charged in-full, it’s neutral or good for your credit. By contrast, you incur a negative item in your credit report for every debt you settle. Settlement penalties affect your credit score for seven years from the final discharge date. This can have an extremely negative impact on your credit.
On the other hand, settlement usually means lower total costs, since you only pay back a portion of what you owe. If your credit is already bad because of late payments and collections, then you may not care about more credit damage. In this case, settlement might present the better option. Just be sure to work with a reputable company that doesn’t charge fees up front then leave you in a lurch.
Debt management program pros and cons
- It reduces your total monthly payments by 30 to 50% for immediate budget relief.
- You can get out of debt within 36 to 60 payments, on average; it most cases, it would take decades to pay off your balances with minimum payments.
- You stop future penalties and fees
- A DMP allows you to avoid debt collection and bankruptcy
- Completing the program successfully saves your credit and may improve your score
- The credit counseling agency helps you break your credit habit and learn to live credit-free
- You can consolidate a range of different types of debt, included payday loans and medical bills
- Enrollment is voluntary; you can drop out at any time and leave cards out if you want a credit line for emergencies.
- This makes collection calls stop on any accounts you include; if a collector calls you, you can simply refer them to your credit counselor.
- Your creditors freeze your accounts during enrollment, so you can’t make any new charges
- You have to ask for professional help and give the credit counselor access to look at your debts – most people would rather solve debt problems alone
- Learning to stop charging can be difficult at first – it’s like a diet, where you’ll be tempted to charge again; this is one of the reasons counselors advise you to include all your accounts, so you can quit cold-turkey.
- When you first enroll, you may see some initial credit damage; this happens if an agency doesn’t set up your payment schedule correctly, which can cause false missed payments.
- This only works for credit cards and other unsecured debts; if you need to consolidate student loans or tax debt, you must do so separately.
Debt management program pros and cons vs other consolidation options
Debt management programs are essentially the last option you have available to solve your debt problems without credit damage. When do-it-yourself solutions won’t work and you’re still working to avoid settlement or bankruptcy, a DMP is what you use.
A DMP offers many of the same benefits that you see with other options for credit card consolidation. You simplify your bill repayment schedule to one easy payment for all your debts. The DMP reduces or eliminates interest charges, and allows you to save your credit.
The primary difference between debt management programs and other consolidation options is that a DMP is assisted. Consolidation solutions like balance transfers and consolidation loans are do-it-yourself; so, you can solve your debt problems with outside help.
The other difference is that other forms of consolidation won’t freeze your accounts. If you use a personal loan to pay off credit card debt, your accounts stay open and in good standing; the same is true with balance transfers. However, this can be a double edged sword. Sure, you can still use your accounts, but you also run the risk of running up high balances again. If you start charging before you pay off the consolidated debt, you effectively only make your situation worse. You end up with more debt instead of less
So, while the DMP may be tough at first because it forces you to give up your cards, this can be an advantage if you’ve grown to rely on your cards to get what you want when you want it.