Overview
Credit Counseling
Credit counseling (known in the United Kingdom as debt
counselling) is a process offering education to consumers about how to avoid
incurring debts that cannot be repaid. This process is actually more debt
counseling than a function of credit education.
Credit counseling often involves negotiating with creditors to establish a
debt management plan (DMP) for a consumer. A DMP may help the debtor repay
his or her debt by working out a repayment plan with the creditor. DMPs, set
up by credit counselors, usually offer reduced payments, fees and interest
rates to the client. Credit counselors refer to the terms dictated by the
creditors to determine payments or interest reductions offered to consumers
in a debt management plan.
Common Features of Debt Management Programs
After joining a DMP, the creditors will close the customer's
accounts and restrict the accounts to future charges. The most common
benefit of a DMP as advertised by most agencies is the consolidation of
multiple monthly payments into one monthly payment, which is usually less
than the sum of the individual payments previously paid by the customer.
This is because credit cards banks will usually accept a lower monthly
payment from a customer in a DMP than if the customer were paying the
account on their own. Some DMPs advertise that payments can be cut by 50%,
although a reduction of 10-20% is more common.
The second feature of a DMP is a reduction in interest rates charged by
creditors. A customer with a defaulted credit card account will often be
paying an interest rate approaching 30%. Upon joining a DMP, credit card
banks sometimes lower the annual percentage rates charged to 5-10%, and a
few eliminate interest altogether. This reduction in interest allows the
counseling agencies to advertise that their customers will be debt free in
periods of 3-6 years, rather than the 20+ years that it would take to pay
off a large amount of debt at high interest rates.
A third benefit offered by credit counseling agencies is the process of
bringing delinquent accounts current. This is often called "reaging" or
"curing" an account. This usually occurs after making a series of on-time
payments through the debt management program as a show of good faith and
commitment to completion of the program. For example, a client with an
account with a monthly payment of $50 which has not been paid in two months
might be considered by the creditor to be 60 days past due. After joining
the DMP and making three consecutive monthly payments, the creditor could
reage the account to reflect a current status. Thereafter the monthly
payment due on the statements would be the monthly payment negotiated by the
DMP, and the account report as current to the credit bureaus. It should be
noted that this process does not eliminate the prior delinquencies from the
credit bureau reports. It merely gives a fresh start and an opportunity for
the client to begin building a positive credit history. Like all derogatory
credit information, the passage of time will lessen the impact of the
negative marks when credit scores are calculated.