What is Credit Counseling and How Does It Work?

What is credit counselingWhen you are struggling with debt, you may hear about many different types of debt relief, and each one may sound promising. But how do you know which ones are legitimate and which ones you should avoid? Those are the most important questions. And to help you answer those questions, we’ve created some comprehensive resources on credit card debt, student loan debt, and debt consolidation. One type of debt relief we haven’t discussed in detail is credit counseling. So what is credit counseling and how does it work?

Read on to find out…

How Does Credit Counseling Work?

Credit counselors look at your total financial situation, and help you work out a plan to pay off your debt. Reputable credit counselors can help you create a money management plan, and a debt pay down plan, as well as provide free resources and workshops related to money management.

Credit counseling can be a very positive experience as long as you find a trustworthy credit counselor and commit yourself to the process. You need to be up front about your situation, including what you owe and where you owe it. You also need to be forthcoming about your current expenses, and your income. A credit counselor can only help you if you are honest about your situation, and willing to get help.

The Federal Trade Commission has an excellent web page dedicated to helping you choose a reputable credit counselor if you should need one.

Credit Counselors and Debt Management Plans

In some cases, a credit counselor may recommend someone start a debt management plan. But while the terms “credit counseling” and “debt management” are sometimes used interchangeably, they are not in fact the same thing. Credit counseling refers to the counseling session aimed at improving ones knowledge of and behaviors related to their finances, while a debt management plan usually means entrusting your finances to a company that you make monthly payments to and that in turn passes those along to your creditors.

(For a detailed explanation of the difference between debt management and other debt relief programs, see this blog post)

While there are some benefits to a debt management plan, it’s important to know that it costs you money and that it requires you to give up some control over your debt payments. Usually, it means that you must stop paying your creditors; instead, you make one monthly payment to the debt management company or credit counseling agency, and they disburse your payment to your creditors. The debt management company can also contact your creditors to negotiate lower interest rates. But keep in mind that you can do this yourself – all it takes is  some preparation and willingness to make the phone calls!

Realize that these types of plans usually cost money. You might be charged a monthly fee, and/or initiation fees, to participate. Reputable credit counseling agencies disclose all of the fees up front, and do so before they ask for sensitive personal information from you. So always make sure to ask about fees before enrolling in a debt management plan. And don’t enroll in one unless you’ve first considered the other options available to you.

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Does Credit Counseling Hurt Your Credit Score?

When you speak with a credit counselor, and consult about your situation, it doesn’t affect your credit score. Simply meeting with a counselor, and working out a debt repayment plan, won’t impact your score.

However, you should be aware that actions you take as a result of the counseling can affect your score. And doing a debt management plan can definitely have a negative impact on you score, at least in the short run. In many cases, a debt management plan involves closing your credit accounts as you pay each one off. That can hurt your score, but it may be necessary if you’ve had problems with excessive spending and need to remove the temptation of having available credit. Additionally, if you enroll in a debt management plan and the company or agency stops paying your bill (as a negotiation tactic), your credit score will be damaged. Partial payments and particularly debt settlements can weigh on your credit score quite a bit.

Before you begin, ask your credit counselor about the process, and what actions might affect your credit score before you agree to anything.

Should You Sign Up for Credit Counseling?

Whether or not you should sign up for credit counseling depends largely on your situation. Credit counseling might help you if:

  • You feel overwhelmed by the amount of debt you have, and want a face-to-face relationship with someone who can give you a better financial understanding.
  • You’re unsure of how to approach your creditors about a settlement, or a payment plan and would like help with that process.

Credit counseling isn’t for everyone, so carefully consider your options before you make a decision.

How To Find a Legitimate Credit Counselor

Unfortunately, there are plenty of unscrupulous folks out there, ready to take advantage of someone in desperate circumstances. You have to be on the look out for disreputable credit counselors that ask for money up front without providing free resources, hide their fees, and tout their services as alternatives to bankruptcy. Be wary of those who claim that they have access to “secret” techniques that you can’t accomplish on your own.

Instead, check with the Better Business Bureau, as well as your state’s consumer protection agency, before agreeing to work with a credit counselor. You can also check with the National Foundation for Credit Counseling, as well as view a list of approved credit counselors from the United States Trustee Program.

And as mentioned above, use this web page from the Federal Trade Commission to help you avoid scams and dishonest credit counselors. At least now you know exactly what credit counseling is. If you have any questions, just post a comment below!

Image credit: ginasanders

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