How A Debt Management Plan Influences Your Credit Score

Americans love debt- especially the plastic kind, despite its high-interest rate. The credit card debt level is gradually rising. Consumers have been feeling positive and when they do, they use plastics recklessly. The result is disastrous because a huge percentage of Americans can’t repay their credit card bills, increase their credit utilization ratio, get into debt problems, and ruin their financial life.

Consumers need a plan to avoid credit card debts. They should have a proper plan to stay away from debts. According to Garrett Gunderson, founder of Wealth Factory in Salt Lake City,

“People struggle to get out of debt because they don’t have a wise and coherent strategy to pay down debt.”

Debt management plans help consumers to pay down debt within 3-5 years with a coherent strategy. It also helps consumers to learn smart budgeting tricks and essential money management skills. Today we will talk about how debt management plans can help consumers deal with their credit card debt problems in the country. But before we talk about it in detail, let’s have a look at the US credit card debt statistics first and find out how big is the problem right now.

Debt Management

US Debt hits a new record

America’s revolving debt crossed $1.27 trillion in March 2018, and according to the Federal Reserve, a huge fraction of this debt is credit card balances.

Americans are in a borrowing mood. At least, the recent credit card debt statistics indicate so.

The nation’s credit card debt statistics

The average balance on store credit cards is $1841

The average credit card debt per US resident adult is $4087

The average credit card debt per US adult with an SSN and credit report is $1734

The average debt per person with a credit card is $5839

The average debt per cardholder (excluding store cards and unused cards) is $5422

The average debt per person who doesn’t have an outstanding balance is $1154

Source: https://www.creditcards.com/

Top 10 states with the highest credit card debt

States Average credit card debt
Alaska $13048
Wyoming $11546
Utah $11222
California $10496
Montana $9759
New Jersey $9454
Colorado $9108
New York $8764
Oregon $8619
Idaho $8570

The nation’s debt statistics

The nation’s total national debt – $21,187,977,900

Debt per citizen is $64,594

Total personal debt is $18,985,701,800

Total student loan debt is $1,541,092,190

Source: http://www.usdebtclock.org/

The situation is not good. Credit card delinquency rate has started rising after falling in the wake of the recession. Credit card balance has been increasing at the national level, though some states have worked hard to reduce debt.

Consumerism has played a big role in driving Americans into debt. But that is only one small chapter in the whole story. There are several other reasons why people fall into the debt trap and seek the help of debt management plan to get out of it.

How does a debt management plan help?

Liz Weston, columnist of NerdWallet has answered this question beautifully. She says,

“Debt management plans can lower your interest rates and make your payments more affordable”

This is the biggest benefit of a debt management plan. When you enroll in a debt management plan, the credit counselor looks at your financial situation and discusses several options with you. He creates a budget plan keeping your financial situation in mind. The idea is to help you manage money like a pro. Here’s the beginner’s guide to money management.

Next comes the negotiation part.

The credit counselor negotiates with your creditors to reduce interest rate and arrange a smart payment plan as per your affordability.

How does a debt management plan affect credit score?

A debt management plan has a positive impact on credit score technically because it teaches you the art of making on-time payments. The main goal of a debt management plan is to help you make timely payments every month and reduce your overall credit utilization ratio, which in turn helps to improve credit score.

The 2 biggest factors affecting your credit score is on-time payments and credit utilization ratio. Timely bill payments account for 35% of your FICO score. The credit-utilization ratio accounts for 30% of your FICO score. A debt management plan addresses these 2 factors directly. Hence, it helps to improve your credit score.

Once you start making monthly payments, your credit score starts increasing gradually.

I have met many people in forums who said that their credit score increased with a decrease in their credit-utilization ratio.

When you sign-up with a debt management plan, you send a monthly check to a credit counseling agency. The agency distributes the amount amongst your creditors. Debt management plans last between 3 and 5 years. A comment stating that you’re paying back your creditors by a DMP stays on your credit report and it remains there till your account is paid in full. This type of comment won’t drop your credit score.

Craig Watts, Public Affairs Senior Manager for Fair Isaac Corp, recently said,

“Frankly, we think consumers who participate in credit counseling shouldn’t be punished in their FICO scores,”

Can your credit score drop?

Well, your credit score can drop in the following circumstances.

If the credit counseling agency running the debt management plan misses a payment, it’s your credit report that gets affected. Being 30 or 60 days late with any payments can drop your credit score due to the negative comments on your credit report. The negative remarks mar your report for 7 years and 180 days. It’s the late payments that drop your credit score, not the comment on your credit report.

Points to remember

If you enroll in a debt management plan, it might be difficult to be eligible for a new credit card. Some plans forbid consumers from submitting fresh credit card applications anyway. However, some creditors feel that a person is already in a debt management plan. So a new credit card will increase the debt load on that person. Plus, creditors don’t want to take any risk.

Other creditors might see a debt management plan as a constructive step taken to pay off debt.

Maxine Sweet, vice president of consumer affairs for Experian, says “A typical creditor uses the scoring model. They don’t look at the comment. They look at the scoring.” When you remove a huge chunk of debt with the help of a debt management plan, your credit score increases. Creditors are more interested in that than the comment.

The ideal way to improve your credit score is to have a 0% credit-utilization ratio on a few credit cards and 9%-10% ratio on other debts. It’s very tough to maintain that. But it’s not an impossible task. Can you do it? Think carefully.

Conclusion

Be very careful at the time of choosing a credit counseling agency. If the agency doesn’t make the payment, it’s your credit report that gets affected. Plus, the monthly fee varies widely.

Check your credit card statement every month. Find out if the credit counseling agency is making timely payments. Don’t trust the credit counselor blindly. After all, credit counseling agencies are also doing a business. They are not here for charity.

What if the credit counseling agency stops sending payments to your creditors? You can call them up or send a letter to them. If that doesn’t work, then your last option is to file a complaint against the company with the state’s attorney general. The other option is to register a complaint with the Better Business Bureau. A bad review can tarnish a company’s reputation big time.

Finally, contact your creditor and explain the entire situation. Your credit report is your responsibility. It doesn’t matter who made the mess. You have to clean up your credit report.

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