Debt management plans - what you need to know (2024)

FAQs

What 4 things should you know about managing your debt? ›

The cons of Debt Management Plans

There is a small monthly service fee, but typically your monthly debt payment (which includes the fee) is reduced along with interest rates. The reduced monthly payment and interest rates more than offset the service fee.

A DMP is an informal agreement between you and your creditors for paying back your debts. You pay back the debt by one set monthly payment, which is divided between your creditors. Most DMPs are managed by a DMP provider who deals with your creditors for you.

Debt settlement cons

The creditor may require you to close the account, which will result in losing access to that credit line. The amount of forgiven debt may be considered taxable income by the IRS, so there may be tax implications.

Called the five Cs of credit, they include capacity, capital, conditions, character, and collateral. There is no regulatory standard that requires the use of the five Cs of credit, but the majority of lenders review most of this information prior to allowing a borrower to take on debt.

The idea of having a notation on your credit history may initially send up red flags. But while a debt management plan does affect your credit history, it does not have a lasting negative effect on your credit score. When you agree to close all of your credit accounts, your credit history stops.

While debt management plans can be effective tools for repaying your debt, they're not always the best strategy. For example, secured debts and student loans aren't eligible for debt management plans, and credit counseling agencies may cap how much debt you can have to participate.

Any credit card that is included in your debt management plan must be closed. This ensures that you are not taking on more debt while you pay back your current balance. It also ensures that you are using the lower interest rate and debt management plan perks from for their intended purpose.

The main debts left out of DMPs tend to be secured and priority debts, like mortgages or car finance agreements, which will need to be paid as usual. If you're struggling to pay any of your priority debts, you'll need to speak to your suppliers.

How long does a DMP stay on a file? ›

When your DMP ends, you can close the accounts you've paid off, or start making full payments again. Your score should recover over time if you continue to meet all repayments. Records of your debts will take six years to drop off your report, but lenders may pay less attention to them as they age.

Debt management plans (DMP) are flexible. This means you may be able to pay off a DMP early. You can do this by increasing monthly payments or paying a lump sum.

And, it can make sense to close your credit card accounts when you're dealing with overwhelming debt, as there are many risks to keeping them open, including the temptation to keep using them. But in most cases, you are not technically required to close all your credit cards when settling debt.

You could owe more in the long run

You may also be charged a fee for the management of the savings account. With those fees and the increased tax liability, a debt relief company will need to get your creditor to lower your balance significantly or you could wind up paying more than if you had never signed up.

If you're behind on your credit card payments and looking for a solution, you might be considering debt settlement, which promises to help clear your debts. However, debt settlement is risky and should be a last resort for most borrowers.

The “4 Cs” of credit—capacity, collateral, covenants, and character—provide a useful framework for evaluating credit risk.

Common forms include debt settlement, debt management, debt consolidation and bankruptcy. To decide which debt relief option is best, evaluate how each will impact your credit score and long-term financial health. Credit counseling can help you choose.