Are you thinking about consolidating your debts? Many people do. In fact I hear from dozens of people everyday who want to consolidate their debts. What I often find is that people really want one monthly payment, not necessarily one large debt.
Over the years the repayment plans that non-profit credit counseling agencies provide have been confused with the term, debt consolidation. The specialized service a credit counseling agency offers is called a debt management plan. Rather than consolidating your debt into one lump sum, a debt management plan consolidates your payments into one monthly amount. It is this one monthly payment that most people are looking for when they contact a non-profit credit counseling agency.
Debt Management Plan versus Debt Consolidation
What would make a debt management plan more appealing than a debt consolidation loan? There are several things. First, your credit has to be in good shape in order to qualify for a consolidation loan. This is especially critical in these economic times. Lenders are not interested in loaning money to pay off debt.
Second, if you qualify for the debt consolidation loan, you are not eliminating your debt, instead the debt is moving to another place. This has several, potentially negative, ramifications on your credit. These include:
- A credit inquiry on your credit report
- A new line of credit
- Open, available lines of credit (the accounts paid off with the loan)
If you do not close the accounts that you are paying off, you may end up in twice as much debt. A recent client I spoke to had this to say,
“Well, when we realized how much debt we were in, it seemed like getting a loan to pay it all off was the best idea. We knew we needed to stop using the cards so much, but we didn’t. We owe the loan and we have new debt on our credit cards.”
The point of a debt management plan is to stop incurring debt, so that you can pay off what you owe. To that end, any credit cards that are placed on a plan are closed or inactivated. It is also recommended that people do not open new accounts while they are on a plan. Closing the accounts may cause a credit score to dip down initially. Making consistent, on-time payments and reducing the amount of debt you owe may have a significant, positive effect on your score over time.
One of the most helpful things about credit counseling is the ability to talk to a certified credit counselor about your financial situation. There are numerous options available for repaying debt and for working to positively impact your credit.
When you speak to a lender, their job is to qualify you for a loan. If they cannot do that, they may refer you to a credit counselor or simply say you do not qualify. A credit counselor’s job is to talk to you about your situation and what you would like to achieve financially. They help you make the best choice for your future whether it is debt consolidation, a debt management plan, your own repayment plan, or even bankruptcy.
This is a guest post by Katie, who is a marketing coordinator at My Financial Goals, a nonprofit group that helps people by providing personal finance and debt counseling.