Key takeaways
- If you’ve been paying only the minimum on your credit cards or missing a few payments, a credit counselor may help ease your money troubles.
- A credit counseling agency will educate you about budgeting and how to use credit, as well as help you set up a debt management plan if you need one.
- A debt settlement firm merely offers to negotiate with your creditors to settle debts.
Is worry about debt keeping you up at night? If so, you are not alone. According to the Federal Reserve, the amount of debt U.S. consumers carry in every category has been rising steadily.
What’s more, many of us are falling behind on payments. A recent Urban Institute report shows that one in three people with a credit file have a debt in collections. And even if we’re not in the red, we may be living paycheck to paycheck—struggling to build an emergency fund, let alone save money for retirement.
Get the support you need
Fortunately, help is available. A reputable credit counselor can teach you how to manage your current debt and avoid taking on more. If you’ve been paying only the minimum on your credit cards or even missing a few payments, then meeting with a good credit counselor may finally help you shake off your money troubles.
Credit counselors also can help you organize what’s called a “debt management” plan. Typically, you’ll make a single payment to the credit counselor each month or pay period. The credit counselor then makes monthly payments to each of your creditors.
Be aware that credit counseling agencies are not the same as debt settlement companies. While credit counseling organizations are typically nonprofit organizations and provide services for modest fees (or even for free), debt settlement companies are usually for-profit companies and charge substantial fees.
But by far the biggest difference is how they interact with your creditors.
- Credit counselors typically negotiate with creditors to help you “manage” your debt. This typically involves lowering your monthly payments by stretching out the length of time you have to pay. They often work out up-front deals whereby creditors agree to stop collection efforts and waive late fees. And they never advise you to stop making monthly payments on your debt.
- Debt settlement companies will negotiate with creditors to allow you to “settle” your debt. This typically involves making a lump sum payment that is less than the full amount you owe. They rarely arrange any collection agreements with creditors in advance. And they frequently encourage or even require you to stop making monthly payments on your debt.
According to the Federal Trade Commission, you should avoid doing business with settlement companies that:
- Try to collect fees from you before they have settled any of your debts. That’s prohibited by law.
- Guarantee they can make your unsecured debt go away.
- Tell you to stop communicating with your creditors, but don’t explain the serious consequences of that.
- Tell you they can stop all debt collection calls and lawsuits.
- Guarantee that your unsecured debts can be paid off for pennies on the dollar.
Also, steer clear of any firm that claims it can take accurate, but negative, information off of your credit report. No one can do that.
Bottom line: A legitimate credit counseling agency will educate you about budgeting and how to use credit, as well as help you set up a debt management plan if you need one. A debt settlement firm merely offers to negotiate with your creditors to settle debts.
What happens to my credit score?
Working with a reputable credit counselor won’t damage your credit score. But if an agency takes over your debt payments and fails to pay creditors on your behalf, that can put your credit rating at risk. And any debt settlement program that requires you to stop paying your creditors before your debt is paid will definitely hurt your score. What’s worse, in either case, you could incur late fees, penalty interest and other charges, which will increase your debt rather than decrease it.
Some lenders won’t work with debt settlement firms, and many consumers enrolled in the programs end up filing for bankruptcy anyway, according to the consumer group Center for Responsible Lending. Plus, consumers who settle non-mortgage debt for less than the amount owed will typically get an income-tax bill for the amount of debt forgiven.
Ultimately, your best bet is to contact a nonprofit credit counseling agency with a solid reputation for providing sound advice and reliable services.
Finding a counselor you can trust
The quality of credit counseling can vary enormously from firm to firm. Start your search for a reputable organization on the websites for the industry’s two major trade associations—the Financial Counseling Association of America (FCAA) and the National Federation for Credit Counseling (NFCC). You can also check out the list of approved firms on the U.S. Trustee Program (part of the Department of Justice) website.
Once you have a list of potential candidates, vet each one with your state’s Attorney General, as well as your local consumer protection agency. They can tell you if the counseling agency is licensed to do business in your state and if any complaints are on file.
The FTC says that a reputable firm will send you free information about itself and the services it provides without requiring you to provide any details about your situation. They also should be willing to talk about their fees up front. Unwillingness to do either is a red flag, and you should walk away.
According to NFCC spokesperson Bruce McClary, an initial counseling session with one of their members will take about an hour and be free or cost very little. After that initial consultation, if you sign up for an extended debt management program, you may end up paying about $25 a month. “But many of our nonprofit members have programs to reduce or waive those fees [in some circumstances],” he says.
As a final step, when you have selected two to three top agencies with solid credentials, make sure you ask a few more tough questions (like these inquiries recommended by the FTC):
- What if I can’t afford to pay your fees or make contributions?
- Will I have a formal written agreement or contract with you?
- What are the qualifications of your counselors?
- How will you protect my privacy?
- How are your employees paid?
For additional information about credit agencies and other debt relief options, see the FTC’s guide to Choosing a Credit Counselor.
The right time to get help
“You don’t have to be in crisis to benefit from credit counseling,” says McClary. An initial session with a trustworthy counselor involves a complete review of your financial situation, so you’ll walk away with some practical, holistic ideas for taking control of your money now and preventing problems down the road.
And if you’ve reached the point where you are receiving repeated collection calls, it’s a good idea to seek counseling before it becomes even worse. “You’ll get some actionable advice that provides almost immediate benefits, as well as strategies that will provide longer-term solutions,” he adds.
