- Your credit report will suffer while in a Debt Management Plan.
- It may be more important for you to work on achieving debt freedom than fretting your credit rating.
Consider How Your Credit Will be Affected After Completing a Debt Management Plan.
As you contemplate a credit counseling service’s Debt Management Plan or a debt settlement plan, consider how your credit will be affected and what kind of credit repair you will need after completing the program. Some debt resolution options harm your credit score. If you need a high credit score, you will need to use the services of a professional credit repair firm or working to do credit repair on your own.
Credit Counseling & Credit Score
A credit counseling program’s Debt Management Plan affects your credit rating in a specific way. It does not necessarily harm your credit score. “Using a credit counseling service and having this situation reported in your credit report should not have any negative impact to your FICO score,” according to Myfico.com, owned by the firm that calculates FICO credit scores. Myfico.com refers only to the impact on your credit score, “…from having this situation reported in your credit report.“ The notation that your accounts are enrolled in a Debt Management Program does not lower your score.
Myfico.com does not claim your credit score will not suffer due to the effects of the Debt Management Plan. Your credit score may suffer for other reasons, including:
- During the time that it takes the credit counseling service to set up your debt management plan, no payment is sent to the creditors, unless you are able to make a payment to both the credit counseling program and your creditors in the same month. If this happens and you cannot afford to pay both, late payments may appear on your credit report and lower your credit score.
- The accounts you enroll in the Debt Management Plan may be required to be closed. If you close several accounts you harm your credit history, which measures how long you have had your accounts opens and accounts for 10% of your credit score. Closing accounts with a long history hurts your score.
- Closing numerous accounts can also negatively affect your credit utilization, the amount of debt you have compared to the size of your credit limits, harming your score.
It may be more important for you to work on achieving debt freedom than fretting your credit rating, and do not blindly accept the common claim from credit counseling programs that enrolling in a Debt Management Plan causes no harm to a credit score.
Similar to Chapter 13 Bankruptcy
Even if your credit score remains unchanged, your credit report will suffer while in a Debt Management Plan. This is because each account enrolled in the Debt Management Plan will likely have a notation on your credit report that indicates that the account is under the supervision of a Debt Management Plan. Even if your score does not drop, if you seek a loan while in the Debt Management Plan, lenders are likely to view you as if you are in a Chapter 13 bankruptcy. These two are viewed similarly because both approaches require you to seek the services of an outside agency — the bankruptcy court or the credit counseling service — to manage your debt. The key difference between credit counseling and bankruptcy is that once you complete or drop out of a credit counseling program, the notation is removed from your credit report, whereas the bankruptcy filing appears on a credit report for up to 10 years.
Financing a Loan While in a Credit Counseling Service
It is common for each debt resolution service to emphasize the positives of their specific approach and to minimize the negatives. When it comes to credit counseling and its effects on your credit, many credit counseling services will state only the part about your credit score not being harmed, but leave out the part about how lenders view you as if you filed for bankruptcy. This is no small matter, given the fact that credit counseling programs take 4½ to 5 years to complete, on average. That is a long enough period of time that even if your goal is to avoid taking on more debt while in the program, you may need to seek an auto loan, if you need to buy a car. Financing a car while in a credit counseling program’s Debt Management Plan is not impossible, but it is likely the case that you will be offered only a very high-interest rate loan and may be restricted to working with auto financing offered only to those with bad credit.
The more you know at the time you research your options, the less likely that anyone will take advantage of you. Ask specific questions and listen carefully. Do not assume your interests align with those of the person enrolling you in the program. If you ask about the Debt Management Plan’s impact on your credit and all you hear is “your score will not be affected,” you are not hearing the whole story.
Credit Repair After Debt Management Plan Finishes?
Once you complete your Debt Management Plan, it is a good idea to view a copy of your credit report and assess your credit repair needs. You can get one no-cost, no gimmick copy every 12 months of your credit report from each of the three main consumer credit reporting agencies (also called credit bureaus) by visiting AnnualCreditReport.com. Even if you missed payments at the beginning of the Debt Management Plan, those payments will be 4½ to 5 years in the past and will not greatly affect your credit score, due to their age. It is likely the case that you do not need to work on credit repair, either on your own or with a professional credit repair firm, after finishing a Debt Management Plan.
What you probably do need to do, however, is to check your credit report and credit score and work to make sure that you have a minimum of three active trade lines in good standing. You do not want to run up debt again, but you do want to use and pay off your credit cards to build your score. Do not close your accounts, if they were not closed by the creditors, as the length of your credit history is factored into your credit score.
If your accounts were closed, consider applying for new accounts to own three active trade lines, depending on what other types of accounts show on your report. For instance, if you have a mortgage, auto loan, and student loan in good standing, you will not have the same need to open new accounts that someone who enrolled all of his or her accounts in the Debt Management Plan, even if both had all enrolled accounts closed by the creditor.
Instead of credit repair, focus on practicing basic good “credit hygiene:”
- Monitor your credit report and credit score regularly
- Pay all bills on time
- Avoid running up balances that use more than 30% of your maximum credit line
- Keep a mixture of account types
- Avoid applying for many new lines of credit within a short period of time
- Keep three active accounts open
You will build and maintain a strong credit score if you follow these best practices.
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