Pros and Cons of Debt Management Plans

Companies that offer debt management plans work with you and your creditors to develop a strategy to repay your unsecured debts, like credit cards, medical debts, and other consumer debts. In many cases, companies offering debt management plans call themselves "credit counseling agencies."

Here's how a typical debt management plan might work: You deposit money into an account every month, and the credit counseling agency uses the money to make payments to your creditors under the plan. Usually, you have to make regularly scheduled payments into the account for three to five years. The terms of most plans require you to pay the debt management company a fee in addition to the monthly deposits.

While legitimate debt management plans might help some people solve their financial difficulties, some of these programs can lead to more money troubles. Often, for-profit debt management agencies charge high fees for services that consumers can handle themselves, make promises they don't keep, and fail to pay creditors promptly (if at all). Because many scammer companies offer debt management plans, you should be extremely wary before signing up for this type of arrangement.

Upsides to Debt Management Plans

Probably the most significant upside to a legitimate debt management plan is that creditors typically agree to waive some fees and reduce interest rates as part of the program. Most creditors will make some concessions when you're on a good debt management plan. Eliminating the interest can significantly reduce the amount you owe each month.

Here are a few more advantages of using a legitimate debt management program:

• You'll receive credit counseling, financial counseling, budgeting advice, and information about many options for getting out of debt.
• A counselor works with your creditors, so you don't have to.
• It's simpler for some people to make one consolidated payment each month to a debt management company instead of making payments to multiple creditors.
• If you avoid bankruptcy by completing a debt management program, most negative items in your credit report will be reported for just seven years, instead of up to ten years for a Chapter 7 bankruptcy. (A Chapter 13 bankruptcy, on the other hand, is reported for seven years.)

Downsides to Debt Management Plans

Unfortunately, it's far too easy to fall into a debt management scam, sign up for services you really don't need, or end up paying money to a disreputable agency that could otherwise go directly to your creditors.

Falling Prey to a Debt Management Scammer

Some debt management companies are legitimate nonprofit credit counseling agencies, but many aren't. Common debt management scams and abuses by scammer credit counseling agencies include:

• failing to pay creditors on time under the terms of the plan
• not paying creditors at all and keeping the deposits you make
• assuring you that they'll convince creditors to give you lower interest rates and reduced fees, but the company can't or won't keep this promise
• charging high fees
• exaggerating the amount of money you'll save with a debt management plan
• lying about the company's nonprofit status and using this status to attract you, then funneling unreasonably high fees to a for-profit company, and
• promising to provide financial advice and educational services, and then just automatically enrolling you in a debt management plan without providing any kind of counseling about other options, like filing for bankruptcy (see below).

Debt Management Plans Can Be Costly

Even if you're considering a debt management plan offered by a legitimate credit counseling company, you should still use extreme caution before signing up for the service. Generally, debt management companies get paid either:

• from creditors, who might voluntarily rebate a small percentage of the funds being paid by the consumer under the plan or
• by charging the consumer fees, often called "contributions" or "donations," which can be high. (A legitimate credit counseling agency might waive its fees if your income is very low.)

When you pay an agency to help you with your debt issues, you're spending money that you could use to pay off your debts. Keep in mind that debt management companies often charge fees for services you might be able to do on your own, like contacting your creditors and working out individual payment plans or settlements. You might even be able to persuade your creditors to reduce fees, interest rates, and the principal amount that's due. You can then use the money you would have paid to the agency to pay down your debts faster or build up an emergency fund.

Before signing up for a debt management plan, you should explore all of your other debt-relief options (including bankruptcy), and determine if the amount you have to pay to participate in the plan makes sense.

Laws That Protect Consumers From Debt Management Scams

Debt relief services, like credit repair, debt consolidation, debt settlement, and debt management plans, are advertised all over the Internet, radio, and television. But, in many cases, companies that offer these kinds of services are scammers who provide little or no help after you've paid them. Even if a for-profit debt relief company does try to help you, you'll probably have to pay a lot for services that you could do yourself or would be better off paying to an attorney or legitimate credit counseling company. (Legitimate credit counseling agencies offer financial help for free or at a minimal charge.)

Fortunately, federal laws, like the Federal Trade Commission Telemarketing Sales Rule and some state laws provide protection from scammer debt relief companies.

FTC Telemarketing Sales Rule

The FTC Telemarketing Sales Rule offers some limited protection against abusive for-profit debt relief companies. Among other things, the Rule:

• prohibits covered debt relief services from collecting fees until the company settles, alters, or reduces the debt
• requires particular disclosures when marketing debt relief services, and
• prohibits specific misrepresentations.

The Rule only applies to for-profit companies, services related to unsecured debts, and services rendered after the debt relief company calls you or you call in response to an advertisement—not if the company communicates with you through the Internet or the mail. Though, the Rule also usually applies when the customer initiates a call in response to the company's advertisement through the mail or an email.

State Protections

Almost all states regulate debt relief companies, and some states prohibit debt settlement companies from doing business. These state laws usually don't apply to lawyers and nonprofits, though. State laws that regulate debt relief services often:

• limit the fees that agencies can charge
• require written contracts
• require that the debt relief company keep consumer payments in a separate trust account
• require debt relief companies to post bonds, and
• restrict certain practices.

If after you look into other forms of debt relief and consider the downsides of a debt management plan, you're still thinking about signing up for one, make sure you're dealing with a legitimate nonprofit credit counseling agency.

How to Find a Legitimate Nonprofit Credit Counseling Agency

Here are some tips for finding a reputable nonprofit credit counseling agency:

• Make sure the company is accredited, usually by the Council on Accreditation (COA) or the International Organization for Standardization (ISO).
• Consider using an agency that's a member of the National Foundation for Credit Counseling (NFCC), and is accredited by the COA.
• The counselors working for the agency should be certified by an independent agency, which means they've passed a certification exam that tests for understanding in areas such as counseling, budgeting, credit and consumer law, debt management, and bankruptcy.
• Check for complaints filed against the company with your state attorney general's office, the Better Business Bureau, and local consumer protection agencies.

If you decide to proceed with a debt management plan, be sure to get everything in writing, including fees, and follow up with your creditors to make sure they're getting paid on time.

Hiring an Attorney

Attorneys provide many kinds of services to help people deal with their debts. Some of the most common debt-related services that attorneys provide are representing debtors in bankruptcy proceedings, debt management assistance, and negotiating with creditors to settle debts. (Be aware that if you settle a debt for less than you owe, you might face a tax liability. The IRS generally considers canceled debt of $600 or more as taxable unless you qualify for an exception or exclusion.)

If you want to learn more about filing for bankruptcy, talk to a bankruptcy lawyer. To find out more about settling your debts, talk to a debt settlement attorney. Debt settlement attorneys also sometimes provide other types of services to debtors, including defending against a collection lawsuit or disputing incorrect information on your credit report. Many bankruptcy attorneys and debt settlement attorneys offer free consultations and will quote you a fee after evaluating your circumstances.