What Is a Debt Management Plan?

How Does a Debt Management Plan Work?

You can work with a credit counseling agency to enroll in a debt management plan that may help you pay off unsecured debt. Here's how the process works.

1. Meet with a credit counselor. Work with a reputable nonprofit credit counselor to determine if a DMP is right for you. The U.S. Justice Department provides a list of approved credit counselors by state. The National Foundation for Credit Counseling is another resource to find accredited counselors. The initial meeting with a credit counselor is free, and they may or may not recommend a DMP depending on your situation.
2. Create a repayment plan. You'll provide the counselor with all of your income and budget details. List your monthly unsecured debts, including the current balance, monthly payment amount and interest rate. The counselor will work with you to create a customized repayment plan you can afford, and that will help you reduce your debt. If a DMP isn't a good fit, your counselor may direct you toward other options instead.
3. Enroll in the debt management plan. If your credit counselor recommends a DMP and you agree to it, you'll enroll and begin making one monthly payment to the credit counseling agency. The agency then sends those funds to each of your creditors. Some agencies charge a DMP setup fee of around $50 and a monthly maintenance fee from $30 to $100 for the plan.
4. The credit counselor negotiates on your behalf. Your credit counselor will contact your credit card providers and ask them to lower your interest rates and waive certain fees. These concessions could reduce your costs and make your monthly payment more manageable, though creditors aren't required to provide them or even participate in the plan.
5. Close credit accounts included in the DMP. Most creditors require you to close your credit card accounts while you repay your existing balance through your monthly DMP payment.

Tip: Avoid opening new credit while in a DMP, since doing so can cause creditors to revoke interest rate reductions and possibly other terms they've agreed to.

Learn more: How to Create a Debt Management Plan

Pros and Cons of Debt Management Plans

A debt management plan can provide debt relief and an opportunity to pay down debt, but it also comes with certain downsides you need to consider before enrolling in one.

Learn more: Is a Debt Management Plan Right for You?

How Does a Debt Management Plan Affect Your Credit?

Enrolling in a DMP doesn't directly affect your credit score. However, your credit report will note you are participating in a DMP, which potential creditors may consider when reviewing your application for new credit.

Still, the actions you take as part of a DMP could impact your credit score.

How a DMP Can Increase Your Credit Score

• Stronger credit history: Making consistent, on-time payments through your DMP helps you build a positive payment record, which is important since payment history is the most influential factor in your FICO^® Score^Θ at 35%.
• Credit utilization recovers over time: Your credit utilization rate, which measures the amount of your available credit you're using, often spikes when you close your credit accounts due to the reduction in available credit. But as you pay down your balances, your credit utilization rate should also fall.

How a DMP Can Decrease Your Credit Score

• Credit utilization spikes in the short term: When you close the credit accounts that are included in your plan, your available credit drops to zero. As a result, your credit utilization will likely be very high. Since credit utilization accounts for 30% of your FICO^® Score, this short-term jump can cost you points, but it should recover as you continue paying down your debt.
• Reduced credit mix: Managing different types of credit accounts makes up 10% of your credit score, so closing accounts could shave points from your score.

Warning: It's important to understand a DMP is not a legal stay. When the credit counseling agency notifies your creditors that you are enrolled in a DMP, they are not legally obligated to stop collection efforts on your debt. Once creditors accept the plan, however, most will pause collections as long as you remain current on your DMP payments, though it may take a few payments before calls stop.

Learn more: What Affects Your Credit Scores?

Is a Debt Management Plan Right for You?

A debt management plan can make sense if you're struggling to make payments on a large debt balance, especially if your accounts carry high interest rates. That makes it hard to pay down balances when a minimum payment does little more than cover interest. A DMP could be a good option for you if most of your debt is unsecured, such as credit cards or personal loans. It gives you a simple budget and one monthly payment that helps you pay off your debt in three to five years.

However, a debt management plan may not be as beneficial if your largest debts are secured, such as an auto or home loan, since these can't be included in a DMP. It may not be worth it if several creditors refuse to participate in the plan and reduce interest costs or fees. In that case, the plan may not give you enough relief to justify the enrollment and monthly fees. Also, a DMP might not be a good solution if you don't have a steady income because missing payments could lead to cancellation of your plan.

Alternatives to Debt Management Plans

Even if a DMP is starting to sound like a good decision, it's still wise to compare it against other alternatives to find the best option for your situation.

DIY

You can avoid paying debt management fees by performing the work of a DMP yourself. You can contact each of your creditors, explain your situation and try to negotiate for lower rates and fees. This can be a good option if you already possess strong negotiation skills. Keep in mind, experienced and certified credit counselors work with creditors every day and may have more success lowering your costs than you can on your own.

Debt Consolidation Loans

This personal loan pays off your debt accounts, which you then repay at a fixed interest rate over a term ranging from one to seven years. Debt consolidation loans typically charge an origination fee from 0% to 12% of the loan amount. But they can be a good option if you can qualify for a lower rate than the average rate across your existing debts. Some lenders even offer consolidation loans to borrowers with bad credit.

Balance Transfer Credit Cards

Another way to self-manage debt is to get a low or 0% introductory annual percentage rate (APR) balance transfer credit card. You typically need a minimum credit score of 670 to qualify, and you'll also pay 3% to 5% of the total to transfer your balances. The savings could be worth the fee if you're carrying a large amount of high-interest debt. The introductory period on these cards can last up to 21 months, which could give you enough time to pay off your debt interest free or at least make a significant dent in it.

Debt Repayment Strategies

Debt repayment strategies, such as the debt avalanche and debt snowball methods, can help you eliminate debt by prioritizing your debts and creating a clear repayment plan.

The debt avalanche method prioritizes paying off debts with the highest interest rates first to save money. By contrast, the debt snowball method focuses on paying off debts with the smallest balances first to create small wins and build momentum.

Debt Settlement

This strategy involves stopping payments to your creditors and negotiating with them through a debt settlement company. Unlike a DMP, which helps you repay your debts in full over time, debt settlement aims to get creditors to accept less than what you owe.

Debt settlement should only be considered after you've ruled out other debt payment strategies. It's not always successful, it can be expensive and it can seriously damage your credit score. Nonetheless, it is an option.

Bankruptcy

You should only consider bankruptcy as a last resort. But for many people who've exhausted all other options, it's the only path forward to get out from underneath crippling debt. A Chapter 7 bankruptcy will wipe out all allowable unsecured debts so you can start fresh, while a Chapter 13 bankruptcy lets you pay a wide variety of debts through the court over three to five years. If you're considering this option, consult with a bankruptcy attorney to better understand your options.

Learn more: Debt Settlement vs. Debt Management: Which Is Better?

Frequently Asked Questions

Consider Your Options Before Enrolling in a DMP

Before enrolling in a debt management plan, review your finances and consider different ways to pay down your debt. If your credit is good and your debt is smaller, you may not even need to enroll in a DMP. A strategic move like signing up for a balance transfer credit card with a 0% intro APR might provide you with the relief you need. Check your credit scores for free to better understand your options.

On the other hand, a DMP might help you pay down debt by securing lower interest rates and waived fees on your unsecured credit accounts. If you're unsure, consider consulting a credit counselor who can review your finances and offer guidance.