Credit Counseling Offers Hope For Easing Debt Burden
Ask The DebtBuster: Fall 2004By Mike Schiano
Q: What really happens to my credit if I go into a credit counseling or debt settlement program? How will it impact my credit score and ability to buy a home or a car? I have a lot of debt and need to get pointed in the right direction.
DebtBuster: Congratulations to you for being concerned about the state of your credit, but keep your focus on the problem at hand: how to pay off your overwhelming debt. If you are at the point where you need help from a credit counseling agency or a company that proposes to "settle" your debts for you, chances are that your credit already has been damaged. If you have missed or been late with some bill payments, that information has been reported to the three credit bureaus. So your main concern should focus on how to stop the damage to your credit and begin to pay off your debt.
In a legitimate, non-profit credit-counseling program, a certified counselor will examine your income and expenses, review your debts and discuss your options. He or she will let you decide whether a credit-counseling program is best for you; if you are pressured to sign up "today and today only," avoid that organization.
Your creditors must agree to accept you in the credit counseling firm's debt management program. The creditors likely will report to the credit bureaus that your account is being repaid through enrollment in a credit-counseling program. According to Fair Issac & Company, the organization that created the FICO credit score, enrollment in such a program has no direct effect on your credit score. The factors that damage your credit score are a history of late and missed payments, charge-offs, bankruptcies and court judgments filed against you.
However, much of the lending process is subjective. Put yourself in a lender's place, looking at a credit report that includes your participation in a credit-counseling program to help you repay debts that apparently you can't handle on your own. Some lenders may view you as too risky to merit approval of a new loan. Other lenders might see that you are taking responsibility for your actions and deem you an acceptable risk and approve your loan.
When you graduate from the debt management program, any notation about credit counseling should be removed from your credit report. However, information about your debts, such as late payments, is required to remain on the report for a minimum of seven years - regardless of whether you receive help from credit counseling.
A debt settlement company offers a very different solution. Its usual approach is for you to completely stop paying your creditors. Imagine the effect that would have on your credit report! The company's representatives then negotiate a settlement with your creditors, encouraging them to accept 50-70 percent of the total debt. If the offer is accepted, then you make payments to the settlement company until enough money is deposited into your account to pay the company's fee and the accepted settlement amounts. This could take years, depending on the size of the settlement.
All the while, your creditors will report to the credit bureaus that no payments are being made on your accounts, since your payments actually are going to the debt settlement company. Some creditors may even take legal action against you in an effort to collect on the debt. A credit report reflecting months and years of missed payments surely will drive your credit score to terribly low levels. Your ability to obtain a loan approval will plummet accordingly.
In a nutshell, credit counseling programs are designed to help you rehabilitate a damaged credit history by making it easier for you to pay back your debts with lower monthly payments. Debt settlement programs can cause ongoing damage to your credit report if you are asked to stop making payments altogether to provide leverage in negotiating a settlement.
Some mortgage lenders, such as Wells Fargo, are willing to review and qualify applicants for home loans even when the customer is enrolled in credit counseling, as long as 12 consecutive, on-time monthly payments have been made to a debt management program. That fact alone would seem to make the credit counseling option a better choice for those who someday hope to buy a home but currently are struggling with a debt burden.
If you have severely damaged your credit, take the path that will allow you to begin making on-time payments as soon as possible - and for as long as possible - before applying for new credit.
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Mike Schiano is a vice president of InCharge® Education Foundation, part of the InCharge® Institute family of financial wellness providers which includes InCharge® Debt Solutions, a non-profit credit counseling organization. He hosts a nationally syndicated radio show about personal finance. Listen for Mike on "Military Money Minutes" on Armed Forces Radio Network. Visit InChargeRadio.com or send e-mail to mike@mikeshow.com.