Save money and your score with a DIY debt management plan
If you’re drowning in bills, a debt management plan through a credit counseling agency can offer a lifeline. But you may be able to grab the same benefits on your own by picking up the phone.
“Go ahead and try talking to creditors yourself first,” says Kelley Long, a certified financial planner with Financial Finesse, a company that offers financial education and coaching. “In a worst-case scenario, if you don’t get anywhere, then you can go to credit counseling.”
Creating a do-it-yourself debt management plan can make sense, especially if your debt is limited to one or two creditors or your hardship is temporary. For example, if you can’t afford your $80 minimum payment this month because your overtime hours got cut just for a couple of weeks, call the creditor, says Martin Lynch, director of education for Cambridge Credit Counseling Corp.
Go ahead and try talking to creditors yourself first. In a worst-case scenario, if you don’t get anywhere, then you can go to credit counseling.
|— Kelley Long
Certified financial planner, Financial Finesse
However, in a more complicated situation, a traditional DMP might work better. For example, Bank of America will work with customers directly but might recommend credit counseling for those in debt to multiple creditors, Bank of America spokeswoman Betty Riess says.
“In taking a holistic approach, we give the consumer a better chance at success,” Lynch says of credit counseling agency DMPs.
How a traditional DMP
Before considering a DIY debt management plan, it helps to know how a traditional plan through a credit counseling agency works.
Credit counseling is the first step toward figuring out how to tackle your debt, says Long, who adds that it’s important to find an accredited nonprofit credit counseling agency. Start by checking with the National Foundation for Credit Counseling, she recommends. Or you can also try the Financial Counseling Association of America.
Once you’ve found an agency, you meet with a credit counselor either in person, on the phone or online to go over your finances and create a budget. If you decide to try a debt management plan, the credit counselor will draw up a proposal and send it to your creditors.
As part of the DMP, your creditors should offer concessions, such as lower interest rates, waived fees and reduced monthly payments. This can help you pay down debt much more quickly, especially if you’re paying high penalty APRs because you made late payments in the past, Lynch says.
Your credit card companies close the accounts that are part of the DMP so you can’t rack up more debt on the cards, says Melinda Opperman, chief relationship officer for Springboard Nonprofit Consumer Credit Management. “A huge part of the process is forcing a behavior change,” she says. You then make one streamlined monthly payment to the credit counseling agency, which makes payments to your creditors, plus a nominal fee to the agency. A DMP typically lasts between three and five years, depending on your financial situation and the amount you owe.
Many consumers like traditional DMPs because the credit counseling agency acts as a middleman. “Often they’ve burned bridges by maxing out the account and missing payments,” Lynch says. “The last thing they want do is pick up phone and call their bank.”
However, many card issuers and other creditors may be willing to work out a deal directly with a struggling customer who does dare to call and ask.
They’re not going to just offer concessions if you don’t have a hardship.
|— Melinda Opperman
Springboard Nonprofit Consumer Credit Management
For example, depending on the situation, Bank of America may lower interest, eliminate fees or reduce monthly payments, Riess says. “Generally, we evaluate the individual customer situation and propose an appropriate, customized solution,” she says.
Capital One also works directly with customers, spokeswoman Pam Girardo says. “We have a hardship program and encourage our customers to contact us directly if they are having trouble making their payments,” she says.
Going DIY has pros
A traditional debt management plan works well for many consumers, Long says. However, going DIY has several advantages. For example:
- You avoid fees. If you do a DMP through a credit counseling agency, you have to pay a monthly fee that could be as high as $50 or more, Long says. However, the average fee at Cambridge is about $24 a month, and some clients get fees waived due to dire circumstances, Lynch says. Still, if you go the DIY route, you can put that money toward your debt, Long says.
- Your credit report stays clean. Any arrangements you make on your own with creditors typically don’t go on your credit report, Long says. In contrast, a traditional DMP does get noted on your report for as long as you’re in it, though it doesn’t affect your score, Opperman says. Still, “having that on your report is a ding,” Long says. If you go DIY, creditors may still close your accounts, though that may be negotiable, Long says. Whether you’re going DIY or the traditional DMP route, closing accounts will affect your credit utilization ratio – the amount of available credit you’re using – bringing down your score. It also can have an impact on your length of credit history, which also affects your score, says Opperman. “If it’s your oldest account, that can be really detrimental,” Long says.
- You may have more flexibility. In a standard debt management plan, you agree to pay a certain lump sum each month, Long says. But when you’re going it alone, you’ve got more wiggle room if an unexpected expense, such as a car repair or a larger-than-expected tax bill, crops up. For example, you could pay only the minimum on all accounts one month if you had to, she says.
There’s one big downside to going DIY, though, Opperman says. Federal regulations limit creditors to one “workout” per consumer every five years, she says. So, if a creditor agrees to lower your interest rate for six months and you’re still struggling at the end of that period, you may not be able to get that account on a DMP through an agency later, she says.
So, consider meeting with a creditor counselor before you make any decisions. “It’s something to talk over with a credit counselor, especially if you have a lot of debt,” Opperman says.
5 steps to a
If you’ve considered all the pros and cons and decided to go the DIY route, here are five steps to take:
- Create a budget. First, draw up a budget to figure out how much you can put toward debt. If you don’t want to use a credit counselor to help you, you can use a budget worksheet, she says. When you call your creditors, mentioning that you’ve put together a budget will show you’ve crunched the numbers and you’re serious about getting out of debt, she says.
- Organize your debts. Make a list of all of your debts, including the name of the creditor, the total balance, the interest rate and the due date, Long recommends. Enter the information into a spreadsheet or organizing tool of your choice.
- Call your creditors. Call each creditor on the list and ask for the hardship department. Explain exactly what your financial problem is, whether it’s an illness, a job loss or reduced work hours, Opperman says. “They’re not going to just offer concessions if you don’t have a hardship,” she says. Still, if you’re really struggling, they should be willing to help, says Rob Berger, founder of The Dough Roller, a personal finance site. “In most cases, they’d rather lower interest rates than deal with a default,” he says.
- Make a repayment plan. On the debt chart you created, note the concessions each creditor gave you and how long they’ll last, Long says, adding that timeframes will help you create a repayment plan. Then, use an online debt calculator to compare different debt repayment strategies and pick one, Opperman says. You can choose the debt snowball, in which you put all your extra money toward the smallest debt to get it paid off quickly; the debt avalanche, in which you focus on paying off the highest-interest debt first; or the debt tsunami, in which you pay off the debt that bothers you the most first, Opperman says. If your interest rate on one card will jump from 7 to 24 percent in six months, while your other creditors lowered your interest for longer, you might want to focus on paying that debt off first, Long says. “You need to have a strategy,” she says.
- Start using credit wisely. Just paying down your debts will help get you on the road to a better credit score. If you’ve got cards that are still open while you’re paying down debt, use them periodically for small purchases, such as a tank of gas, so they don’t get closed for lack of use, Opperman says. “Then run home and pay the bill immediately,” she says. If a creditor closed your account in exchange for concessions, you may be able to get it reopened once it’s paid off. “It’s not uncommon for them to invite you back,” Opperman says of credit card companies. Once you’ve got a card, use it responsibly. For example, set up automatic payments for a small recurring bill, and make sure to pay the bill in full every month. But steer clear of any spending that would tempt you back into debt. “You definitely don’t want to get in trouble again by using your card for retail therapy,” she says.
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