Alternatives to Bankruptcy: Is A Debt Management Plan Right For Me?

17 Oct Alternatives to Bankruptcy: Is A Debt Management Plan Right For Me?

I have been discussing alternatives to bankruptcy that started with my first post. We have now come to an alternative of dealing with your debts through what is called a “debt management plan” or DMP.

A “debt management plan” typically involves meeting with a credit counselor. The counselor through an agency typically has a working relationship with lots of the national creditors. The counselor can look at your debt picture and give you a pretty good idea of what the Agency can do. Usually, this means contacting the creditors and negotiating lower rates of interest; lower rates of payment; obtaining an agreement to stop phone calls and other duns while you are under the program.

The agency will then enter into an agreement with you whereby you pay money every month into the agency. Every month, the agency will then disburse your money to the creditors according to the plan that all parties have agreed to. Every so often, you will get statements from the agency showing that your credit card balances are declining. You also get periodic statements from your creditors showing that your credit card balances are declining as you continue to make payments through the DMP.

In addition, one of the goals of a DMP is that you are successful in your plan. In this respect, the credit counseling agency will typically have a counselor go over your income and expenses and assist you with budgeting your money. They will say that you will need a certain amount to pay toward your creditors. You will also need a certain amount for your fixed expenses such as housing; car payments, etc. They will also help you with budgeting for other items such as groceries and non-recurring expenses like car insurance, or property taxes. A credit counseling agency wants to not only get you out of debt but to provide to you the tools that you need to stay out of debt. Financial education is a big component of their program such as those accredited by the NFCCC.

At this point, a debt management plan is looking a lot like a debt settlement. The difference can be hard to understand initially. A DMP will work with your creditors and will continually pay your creditors will you continue to make payments into the plan. Some of the benefits of a DMP is that your creditors will generally not contact you while you are in the program. Another benefit is that often the creditors will report more favorably to the credit reporting agencies that the debtor is in a DMP and is paying according to re-structured terms. While this is not wonderful reporting as Susanne Robicsek points out, it is better than allowing your credit to tank through a debt settlement agency. Another benefit is that most DMPs will pay your creditors in full (unless something else is agreed to) so that you will not have potential tax implications from canceled or forgiven debt.

So, what are the pitfalls of a debt management plan? First, can you afford it? In my estimation, DMPs work best when your debt is significant but not suffocating. The difference between the two depends on your circumstances. For a family of modest means, $20,000.00 in debt can be suffocating. For a family with more resources, debts of $40,000.00 might can be dealt with through some careful budgeting and belt tightening. I have seen some budgets developed in conjunction with a DMP that were pretty unrealistic. For example, for a family of four, budgeting $200.00 a month for food is going to be pretty tough. You have to realistically look at the budget and determine if you can live with that budget.

Another pitfall is if you are unsuccessful at the debt management plan. If the DMP has negotiated reduced interest rates and the sort, if you are unable to keep up your payments to the DMP, you will be terminated from the program. If you are terminated, most of the creditors will go back to their high rates of interest and tack other fees and costs. This could quickly ratchet up your debt from “almost manageable” to “not gonna make it.” (In fairness, I don’t see much difference—“almost manageable” is like “almost jumping the ditch”). If you are unsuccessful, you may have pumped a lot of money into the DMP and have little to show for it.

Another pitfall is that some DMPs receive a significant portion of their compensation from the creditors. As the old adage goes, “follow the money” to see where someone’s interest lie, if the creditor funds the bulk of the DMP, you should know that and you can assess the appropriateness of the advice with the fact that the DMP gets money from the creditors firmly in mind. In fact, the Federal Trade Commission states that if a DMP with whom you may do business won’t tell you how they get their money, look elsewhere. It is true that many DMPs get a “fair share” contribution from the creditors but it should be disclosed to you.

Another fly in the ointment is that DMPs work best when all of your creditors with whom you are struggling are included in the plan. If one creditor is holding out for more favorable terms (to the creditor, that is), it can throw a monkey wrench in the whole plan. If all creditors play ball, then a DMP may be feasible. If one or two are not willing to work with you and the credit counseling agency, it could wreck the whole DMP.

So how does a DMP compare to bankruptcy? As stated above, if your debt is significant but not suffocating—perhaps it can be resolved through a DMP. But, if the budget appears unrealistic (that is, $200 a month for groceries for family of four), then it may be better to look at other options such as bankruptcy. Bankruptcy can offer a fairly sure discharge of debts and sometimes at a lower cost. Additionally, with bankruptcy, creditors generally do not get a vote on the matter as long as your case complies with the Bankruptcy Code. Granted, some of the credit reporting may not be so great but you can be free of your debts.

In considering whether to engage in a DMP, it is also a good idea to see if bankruptcy is a feasible option. You do not have to commit to bankruptcy but at least find out the options and how it might affect you.

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Adrian Lapas, Esq.

I've been practicing bankruptcy law in North Carolina since 1993, and am certified as a specialist in consumer bankruptcy law by the North Carolina State Bar.
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