What Is Credit Counseling?

Credit counseling provides consumers with guidance on consumer credit, money management, debt management, and budgeting. The goal of most credit counseling is to help a debtor avoid bankruptcy if they find themselves struggling with debt repayment.

Many counseling services will negotiate with creditors on the borrower's behalf to reduce credit card and loan interest rates and waive late fees. According to the Consumer Financial Protection Bureau, credit counseling agencies most often operate on a nonprofit basis, though there are credit counselors that are for-profit.

Key Takeaways

  • Credit counseling helps consumers with consumer credit, money management, debt management, and budgeting.
  • The purpose of credit counseling is to help a debtor avoid bankruptcy if they are struggling with their debt burdens.
  • Counseling services negotiate with creditors on the borrower's behalf to reduce interest rates and waive fees.
  • A credit counselor can also discuss debt repayment strategies to help you choose a method that works best for you.

Understanding Credit Counseling

Reputable credit counseling organizations employ trained and certified staff. These counselors can talk with clients to help them develop a personalized plan for their credit issues. An initial counseling session typically lasts one hour, with an offer of follow-up sessions. A reputable agency should offer information about its services free of charge without requiring potential clients to disclose details about their situation.

Credit counseling companies can help you create a debt management plan (DMP), which allows you to make a single payment toward your debt each month. Under a DMP plan, the consumer deposits money each month into an account within the credit counseling organization. The organization uses the funds to pay unsecured debt, such as credit card bills, student loans, and medical bills.

These debt payments follow a schedule the counselor and consumer develop together. Often, creditors will need to agree to the scheduled repayment plan. Creditors may decide to lower interest rates or waive fees. A successful DMP requires regular, timely payments. It may take 48 months or more to complete a debt management plan.

It's important to note that credit counseling and agencies that provide these services are not the same as companies that offer debt settlement or debt consolidation services. Debt settlement involves the negotiation of a reduction in the total amount of debt owed. This is something you can do on your own or hire a debt settlement company, which typically involves a fee. Debt settlement can help you eliminate debts for less than what's owed and avoid bankruptcy, though it can have negative consequences for your credit score.

If you're considering debt settlement, be wary of companies that ask for an upfront fee or service charge. The Federal Trade Commission imposes certain requirements that must be met before you can be charged a fee for debt settlement services.

Debt consolidation is a process in which you take out a consolidation loan to pay off all of your existing debts. You'd then make payments toward the new loan going forward, according to the interest rate and terms set by the lender. This method doesn't allow you to pay less than what's owed toward your debt but it can make repaying what you owe more streamlined and convenient.

Credit Counseling Services

There are many not-for-profit credit counseling groups that offer services in person, online, and via telephone. Many universities, military bases, credit unions, housing authorities, and branches of the U.S. Cooperative Extension Service operate nonprofit credit counseling programs. Local financial institutions and consumer protection agencies may also be good sources of information. However, non-profit status does not guarantee that services are free, affordable, or legitimate.

Some credit counseling organizations charge high fees, which they may hide. Others may urge clients to make contributions to their charitable organization. When considering any credit counseling service, it's important to understand what fees, if any, you may be charged and what those fees are for.

Can Credit Counseling Help Me Get Out of Debt?

Credit counseling can help with getting out of debt, depending on your situation and your needs. If you're struggling to come up with a realistic budget, for example, a credit counselor can review your spending and income and help you identify areas where you could improve and create more money to apply to debt repayment.

A credit counselor can also discuss debt repayment strategies to help you choose a method that works best for you. For example, they may help you weigh the merits of the debt snowball method versus the debt avalanche. Both methods require you to prioritize your debts and pay as much money toward the first one as possible while paying the minimum to the rest of your debts.

Where they differ lies in how you order your debts. With the debt avalanche, you pay off debts from the highest interest rate to the lowest. This method can help you save money on interest over time. With the debt snowball, you pay off debts from the lowest balance to the highest. You may not save as much on interest but you can get motivated to keep paying down debt if you're able to clear one or two balances relatively quickly.

Bankruptcy can be extremely damaging to your credit so it's important to explore every option for managing debt before choosing this option.

Whether a credit counselor is an effective way for you to pay off debt depends on what you can afford to pay, based on your income and budget, and your overall financial situation. If you can't afford to pay your debts monthly, for instance, but you do have some money in savings, then you may consider debt settlement instead. And in a dire financial situation, bankruptcy may be the last resort.

Help Finding a Credit Counselor

The National Foundation for Credit Counseling is a nonprofit that connects consumers with nonprofit credit counselors. The United States Trustee Program keeps a list of credit counseling agencies approved to provide pre-bankruptcy counseling. Bankruptcy law mandates that anyone filing for bankruptcy must first undergo credit counseling.

As you search for a credit counselor, there are certain questions to keep in mind that can help you find someone reputable to work with. Some of the most important things to ask include:

  • What services do you offer?
  • How is credit counseling offered at your organization?
  • How often will we meet or communicate?
  • Do you offer free educational resources?
  • What fees do you charge, if any?
  • What if I can't afford to pay?
  • Do I have to sign a contract to use your services?
  • What are your certifications and qualifications?

If you're concerned about a credit counseling agency's reputation, consider contacting your state attorney general's office or state consumer protection agency to learn whether a particular company has had any complaints filed against it.

Asking these kinds of questions can help you make a more informed decision about which credit counseling agency you'd like to work with.