When credit card balances become overwhelming and there appears to be no way to pay them, two options consumers may consider are debt negotiation or debt management. These methods of squaring away outstanding credit card accounts and other types of unsecured debt are similar insofar that they relieve the consumer of phone calls and letters from creditors and collections companies. However, debt negotiation services procured through a company are often laden with hidden costs that don't result in a substantial savings to the consumer. Records of negotiated debt severely affect a consumer's credit history for several years.
About Debt Negotiation
Debt negotiation, also known as debt settlement, is a method of paying down debt that involves the creditor's agreement to forgive a certain portion of the consumer's debt in exchange for a one-time payment. Creditors may charge off 20 to 75 percent of what the consumer owes and report the account to consumer reporting agencies as a settled account. Many consumers believe that if they negotiate debt, this makes them appear more credit-worthy in the eyes of prospective lenders. But settled debt is considered negative information--a record no consumer wants in his or her credit history.
How It's Done
Rather than negotiate debt with creditors themselves, many consumers opt to use the services of debt settlement companies (debt negotiators or debt arbitrators). The National Foundation for Credit Counseling states that these companies contact creditors on behalf of the consumer to negotiate a lower debt.
Debt settlement companies charge large fees for their services. Some may charge the consumer a percentage of their total debt, while others charge a percent of the amount of debt the company was able to negotiate, which can be as much as 35 percent. Debt settlement companies may also front load fees, in which case the consumer pays the company its fee before any of her debt is paid. Consumers may also be charged monthly administrative fees by debt settlement companies.
However, a risk of using a debt settlement company is that consumers are often advised to stop paying debts entirely until a negotiations are underway with creditors. During the period of time after bills go unpaid and debts are not yet negotiated, creditors may opt to sue the consumer to recover the debt.
Debt Management Overview
The Federal Trade Commission states that a debt management plan is service offered through credit counseling organizations. When a consumer agrees to participate in debt management, it's a "win-win" outcome for both consumer and creditor. The creditor is paid back 100 percent of the balance owed on past-due accounts, and the consumer meets his or her obligation of repayment. Credit counselors will work with the consumer's creditors to negotiate reduced interest or to waive late fees and other charges on unsecured debts to make it easier for the consumer on a debt management plan to get the debt repaid. However, credit counseling and plan participation isn't an appropriate solution for everyone. Bankruptcy may be more appropriate for those whose debt is overwhelming.
How Debt Management Works
Consumers participating in a debt management plan make a once-a-month deposit with a credit counseling organization. A nominal set-up fee and monthly service fee, usually $50 and $25 or less, respectively, may be charged to the consumer, although the National Foundation for Credit Counseling says that these fees may be waived in hardship cases. The consumer's funds are then used to pay off unsecured debts. The Federal Trade Commission says that successful participation in a debt management plan requires the consumer to make regular, timely payments to the credit counseling organization. The consumer should always inspect monthly statements to make sure that creditors are paid according to the debt management plan and contact their credit counselor if unable to make a scheduled monthly deposit. According to the National Foundation for Credit Counseling, most consumers spend between 30 and 60 months in a debt management plan, during which time they are required to refrain from applying for or obtaining new credit or loans or using existing credit cards.
Impact to Credit Reports
Debt negotiation is more appropriate for the consumer whose credit history is so poor, it cannot be salvaged. However, MSN Money's Liz Pulliam Weston also says that debt settlement may be the only recourse for consumers who have a large amount of debt but whose high wages preclude them from filing for bankruptcy. A notation of debt negotiation stays on the consumer's credit report for seven years--the same amount of time it would have the debt been charged off by the creditor or sent to a collections agency.
Enrolling in debt management generally does not hobble the consumer's credit report for such a long duration, the National Foundation for Credit Counseling says. However, if terms of repayment are renegotiated with creditors, this can be reflected in a credit report and indicate to prospective creditors, landlords or employers that the consumer has had a history of financial problems. The National Foundation for Credit Counseling indicates that how information is reported to consumer reporting agencies is ultimately at the individual creditor's discretion but goes on to indicate that most consumers who successfully complete a debt management plan are equally as successful in obtaining new credit.
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