Tips & advice on getting your finances back on track.
When your credit is suffering under the weight of your debts, it’s hard to know which solution is the best option to pursue. Worrying about the effects of credit counseling and a debt management plan on your credit score shouldn’t be a deterrent to exploring this option. With knowledge bringing empowerment, let’s start with a few of the basics.
What is credit counseling?
Credit counseling agencies provide personal financial education, budgeting advice, money management, workshops, and debt management plans. Counselors should be certified and trained in the areas of consumer credit, money and debt management, and budgeting. You should look for a non-profit organization to work with.
What is a debt management plan?
A debt management plan can help you pay off unsecured debts, like credit card debt, if you are having trouble making your payments. In a DMP, you make a single payment to the credit counseling organization who will then disperse that money among your creditors in accordance with the specifics of your debt management plan. Credit counseling agencies have relationships with creditors that can lower the interest rates on your credit cards, enabling you to pay off the debts faster.
There is often a small monthly fee, which is usually much less than the amount you save by being on the plan. You will more than likely be required to close the credit cards included in the DMP.
So, what does all of this have to do with my credit score?
First, let’s look at what makes up your score. Your credit score has five parts:
Credit Counseling and your Credit Score
When you enter a debt management plan, it may have a short-term effect on your credit score. For example, you may be required to close some accounts. This will reduce the amount of available credit you have and influence your credit-to-debt ratio. The resulting drop in your credit score will be temporary and will improve as you pay down your debt load. This temporary drop may be significant because your credit utilization ratio makes up 30% of your credit score.
Closing accounts can also affect your credit age. Those accounts you close will no longer be a part of your credit age calculation. Credit age is a lesser part of your credit score and accounts for 15% of your score, so any decrease due to credit age will be small.
The largest contributor to your credit score is your payment history at 35%. Once on a debt management plan, your payments should be made on a regular basis and on time, resulting in your payment history gradually improving. Your credit counselor will provide ongoing personal financial education materials to help you become more proficient at managing your money as you make your way through your DMP.
Overall, a debt management plan will have a positive influence on your credit score. There is often a small decrease in your credit score initially, however over the long-term, as you decrease your debt load through regular payments, your credit score will rise.
A typical debt management plan will last for approximately 3 to 5 years and your credit score will rise gradually over this time. There is no magic that will quickly increase your score. It will take time and consistent effort to bring it back up.
Ultimately, the best thing you can do for your credit score is to consistently make on-time payments toward your debts. Speaking with a credit counselor and participating in a debt management program can help you with both your payment history and your debt ratio. These two factors together make up 65% of your credit score. Any temporary decrease in your score will be outweighed by the longer-term benefits of credit counseling and a Debt Management Plan.
Navicore Solutions is a non-profit provider of compassionate credit counseling, offering financial education, guidance and, for those that qualify, a debt management plan. If you’re struggling to pay your monthly bills, a credit counseling session may be the solution for you. Call Navicore on 1-800-992-4557 to speak with a certified credit counselor, or click here to get started.
Lori Stratford is the Digital Media Manager at Navicore Solutions. She promotes the reach of Navicore’s financial education to the public through social media and blog content.