Sense & Centsibility Blog
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Five reasons to choose debt management plans over debt settlement

Do you have too much credit card debt and feel like you’re just “treading water” on your credit card balance? This can be overwhelming and stressful; plus, you need to choose the right approach to become debt-free.

Two potential approaches are a debt management plan (DMP) or debt settlement. In my experience, a DMP is a powerful tool for regaining control of your finances, while debt settlement sometimes creates more issues than it solves.

1.  Debts Are Paid in Full With a DMP

With a DMP you will pay back every penny that you borrowed. A DMP works by consolidating your unsecured debt payments, such as credit cards, and you make one monthly payment — typically with reduced interest rates. Once completed, the account(s) on your DMP will show up on your credit report as “paid in full,” which helps maintain and often improve your credit score.

A debt settlement company will try to settle your debt for less than what you owe, which might sound attractive. However, because you won’t pay off your full balance, your credit report will likely say something like “Settled for an amount less than agreed upon,” which can negatively affect your credit score. Not to mention, debt settlement is something you can do on your own for free, instead of paying fees to a company to do it for you. (See “Other Resources” below.)

2.  Debt Settlement Has Potential Tax Consequences

If you use a debt settlement company and if your creditor ends up accepting a forgiveness amount over $600, you must file a 1099-C, Cancellation of Debt Form with the IRS. This means you might have to pay taxes on the debt forgiveness. If several of your creditors all accepted more than $600 in forgiveness, you can be left with a substantial tax bill! What you pay in taxes can significantly reduce the amount that you saved on settling the debt.

With a DMP, there is no forgiveness of debt, so there’s no need to worry about any additional tax forms or tax-related payments.

3.  DMP Can Help Protect Your Credit

If you start a DMP on an account where you are not behind in payments, your payments will continue to report as “on-time” on your credit report. Maintaining a record of on-time payments will maintain or even improve your credit score.

A debt settlement company will likely tell you to stop paying your creditors as it tries to negotiate a settlement with them. These negotiations can take months or longer, so late fees, interest charges, and negative marks on your credit report will start to pile up. This is because you’re paying the company a monthly amount and fee, and they hold onto that money until they have enough to settle the debt. In addition, as your accounts fall further and further behind, your creditors will aggressively pursue you to collect that debt. (On a DMP, money is sent to your creditors monthly.)

4. Debt Management Plans Can Cost You Less

While you do pay a monthly fee to administer your DMP, the organization servicing your DMP will typically secure lower interest rates from your creditors on your debt. An added benefit is free, certified budget counseling and support while you’re on the DMP.

With debt settlement, in addition to paying late fees and interest charges while the company negotiates with creditors, you also have to pay a fee to the company. They hold your funds until they have enough money to settle the debt, but there is no guarantee the creditors will agree to the settlement.

Also, because the company is a for-profit enterprise, it will pocket some of your payment anyway. Unlike DMPs, you will likely not receive free, certified budget counseling. Since debt collectors are likely still pursuing you, you are at risk of having a judgment filed against you, which could result in wage garnishment. Finally, you are paying a fee for settlements that you could request on your own for free.

It’s important to note that if your credit is in good standing and you haven’t missed any payments, the DMP is always the better option, as creditors most likely won’t settle on a debt until you have fallen behind on payments.

5. Respected National Agency Recommends DMPs Over Debt Settlement

The National Foundation for Credit Counseling (NFCC) is a strong proponent of DMPs as a preferred way of reducing and eliminating credit card and other unsecured debt for all the reasons mentioned above. Founded in 1951, NFCC is the largest nonprofit financial counseling organization in the United States, and it accredits local and state non-profit counseling organizations nationwide.

Other Resources

Here are other resources from LSS Financial Counseling about DMPs and debt settlement:

Getting Started with a DMP

LSS Financial Counseling is an NFCC-accredited organization. Our certified counselors provide trusted, nonjudgmental support. They can explore options with you to eliminate your debt, including our DMP. They can also work with you to create realistic budgets, improve your credit score and manage expenses. Call 888.577.2227 to set up a free, confidential appointment, or get all your support online.

Dan Park


Author Dan Park is a Certified Financial Counselor with LSS Financial Counseling.