Understanding Credit Counseling… Here’s What You Need To Know

Credit Counseling is a debt management program where you make a single monthly payment to a company, usually a not for profit company, who then distributes the money to your creditors on your behalf, ideally at lower interest rates so you can pay off the debt faster. 

Credit Counseling is by far the most popular, with millions of Americans participating. It is wildly acclaimed by creditors, governement regulators, and mainstream media but truth be told, it is a disaster for most people.

So why is it so promoted?

Well the answer is quite simple. It was designed by creditors and banks for the benefit of creditors and banks. From there, public relations and propoganda took over.

As a matter of fact, the creditors and banks are tied so tight with Credit Counseling, they fund them. 

But here is why the program doesn’t work for the vast majority of people.

Let’s say you owe $30,000 on five credit cards and you pay an average interest rate before enrollment of 22% . Your minimum monthly payments are $675. At this rate, it will take 93 months to pay off your debts, assuming you don’t miss a single payment along the way.

You enroll in a Credit Counseling program that promises to get you out of debt faster. Assuming your creditors agree to participate in the program (not always the case), Currently, most of the major creditors and banks will reduce interest rates down to a range of 8% on the low side to 18% on the high side. Let’s say in your case the average is 14%.

So if your payments are reduced to $600 per month at the new 14% rate, how long will it take? First, we need to deduct the monthly fee charged by the agency. In this example, we’ll use a fee of $25 per month, so $575 will go toward debt reduction. You’ll be out of debt faster but it will still take 81 months to become debt free.

But there is a price to pay. First, your credit is taking a big hit. Second, you are entering into a new contract to pay the newly agreed amount. What happens if life gets in the way and you need to miss a payment? Or what happens if you lose overtime and can no longer make the payments?

You are basically out of luck. Your new terms are cancelled and the collection process resumes.

But even under the most ideal circumstances, it will take anywhere from 5 to 9 years or more to get out of debt using Credit Counseling. You will still pay your principle balance plus interest and you would have paid up to $2,700 in fees for the service.

But the worse part is the inflexibility. You must make all the payments to stay in the program. And let’s face it, the concessions that are being made are not enough to make a drastic difference in your life. If things were tight before, they will still be tight during the program.

But the facts speak for themselves. Approximately 25 percent of people that enter a Credit Counseling program complete it.

That’s why Credit Counseling is usually only effective for people with short-term financial problems. Consumers with long-term financial instability have trouble keeping up with the regular payment stream required to make these programs work.

Credit Counseling can be an answer for a temporary reprieve. But keep this in mind. Once Credit Counseling goes on your credit report it is difficult to get off.

If your situation is truly short-term, your best answer may be to negotiate short-term concessions with your creditors directly. Or, not do anything at all.

As with Credit Counseling, your accounts will be closed, but you won’t have the mark on your credit report.

If your situation is not short-term, another strategy may be best.