Credit Counseling Costs Consumers More than Debt Settlement

Media personalities often praise credit counseling agencies for their non-profit status while criticizing debt settlement companies for charging fees for their professional services. What many consumers do not realize is that consumer credit counseling agencies collect the same (and often more) fees from their clients than debt settlement companies. The difference between the two is that one collects those fees directly from consumers while the other collects them as commissions from the creditors. However, the fees come from consumers' pockets regardless.

Consumer Credit Counseling Fees

Consumer credit counseling services assist indebted consumers by helping them develop a budget and repayment plan. The repayment plan requires consumers to send in one payment each month, which the service distributes to the multiple creditors in each debt management plan. The service will often secure lower interest rates on their client's credit card accounts to help ease repayment.  

Some consumer credit counselors may take a setup fee or a monthly donation directly from consumers. However, the bulk of their funding comes from creditors through what is known as "fair share" donations. These "fair share" donations come out of the monthly payments the service collects from consumers and usually amount to about 15 percent (sometimes less) of what the service collects. So, if a consumer is sending in $1000 per month to the service, the service may collect $150 per month in commission-like donations from creditors on the backend. Essentially, the consumer is paying for the service; it's just arranged in a way to help maintain non-profit status so the service and the creditors benefit from the tax breaks associated with this non-profit status.  

Debt Settlement Fees

Debt settlement services assist indebted consumers by helping them develop a budget and a savings plan that involves consumers depositing funds into a third-party savings account each month. These funds are left alone to accumulate until there is enough to negotiate a settlement with a creditor. Because consumers who are eligible for debt settlement are experiencing a financial hardship and are already behind or about to fall behind on their credit card bills , they use what little money they have available to save up for settlements. Once enough funds are available and a creditor agrees to partially cancel a debt (for example, a creditor accepts $5,000 to fully settle a $10,000 balance), the consumer starts saving up for the next settlement until all eligible debts are settled.

Debt settlement companies are somewhat less standardized, partly because the industry is newer than the credit counseling industry and partly because creditors do not have the control over debt settlement that they enjoy over credit counseling. However, growth in the industry and industry trade groups are helping standardize much of the industry. Regardless, it's not uncommon for debt settlement companies to charge a setup fee and a monthly service fee. Many companies typically charge around 15 percent of the enrolled debt amount, which they break up into monthly installments over the life of the program. If 15 percent sounds familiar, it's because that's how much of each payment credit counseling services often receive as commission-like "fair share" donations from creditors.

So, what's the difference?

Consumer credit counseling services help consumer repay 100 percent of the debt owed plus interest, although at a reduced percentage. The service typically earns 15 percent (sometimes less) of what they are able to collect for creditors. So, if a service is able to collect $10,000 from a client, the creditor may reward them with a $1,500 donation. The client pays the full $10,000.

Debt settlement services help consumers negotiate reductions in the amount owed in exchange for lump-sum settlements. Debt settlement services are more upfront about the fact that they earn fees for the services they provide and, instead of filtering these fees through creditors on the backend, debt settlement services collects fees openly from consumers. However, if a client settles a $10,000 debt for $5,000, the $1,500 in fees paid to the debt settlement company just saved them $3,500 over what they would have paid through credit counseling services. Not bad, even for this simplified example.

As far as consumers go, a consumer who cannot afford to repay all unsecured debts but who is also looking to avoid bankruptcy is often better served by a debt settlement service. Unfortunately, this is the situation for a growing number of consumers as unemployment and foreclosures hit record levels. Debt settlement fills the gap between credit counseling services that require full debt repayment and bankruptcy, which may cancel all debt.

How to choose?

Do the math. If you can afford to fully repay your debts and you just need a little help organizing repayments and lowering ultra-high interest rates, then you may want to look into consumer credit counseling services. However, be sure to only approach those agencies approved by the U.S. Trustee Program at http://www.usdoj.gov/ust/eo/bapcpa/ccde/cc_approved.htm. If you are terribly worried about your credit score, then this route may be best for you.

If you do the math and discover that full repayment isn't feasible, but you believe you can partially repay your debts, then you may want to look into debt settlement services. However, be sure to pursue companies that belong to industry groups, such as the U.S. Organization for Bankruptcy Alternatives (USOBA) or The Association of Settlement Companies (TASC) because membership in these groups demonstrates a company's adoption of certain consumer-friendly standards. You should be aware that the debt settlement process can be more temporarily damaging to your credit score than consumer credit counseling's debt management plans (neither option is as damaging to credit as bankruptcy). But, that should only matter if you are looking to take out more loans -- something that shouldn't concern someone struggling to get out of debt.

If you find that you can't even repay half of your debts, then you may want to speak with a bankruptcy attorney about your options. Bankruptcy has the greatest negative impact on credit, but regaining the ability to pay for food and the roof over your head will likely out-weight credit concerns if your are contemplating bankruptcy.

Can't I negotiate my own settlements?

You can negotiate your own settlements. There is no law requiring consumers to hire debt settlement companies to settle your debts. However, many consumers find the headache of developing the plan, setting aside funds and dealing with creditors more stress than they care to manage. The know-how of debt settlement is also a factor for many consumers. Negotiating settlements is a delicate matter, and doing so without understanding the ins-and-outs of the process can sabotage efforts. However, there are do-it-yourself debt settlement kits available that show consumers what they need to know to successfully negotiate their own settlements directly with their creditors. The kits are typically inexpensive and can save you thousands of dollars you would have otherwise paid in debt settlement service fees.

Do a search for "diy debt settlement kit" to find a kit that may work for you.