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Special thanks to Marlene Ware, a certified credit counselor at The National Foundation for Debt Management for contributing this article to AskTheMoneyCoach.com.

From birth to 18, a girl needs good parents. From 18 to 35, she needs good looks, from 35 to 55, good personality. From 55 on, she needs good cash. I’m saving my money.   ~ Sophie Tucker

Well, I better start saving my money. I’m too old to get help from my parents and I am beyond the threshold for good looks and personality. It happens in a flash – one day your entire future is in front of you and the next your toes are on the doorstep of retirement!  Sophie Tucker knew what she was talking about!

Continue reading “Guest Post: Turn Spending into Saving” »

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Q: I Have Three Credit Cards and My Combined Monthly Payments are About $700. Is it Wise to Consolidate Through a Debt Management Agency? Will This Affect My Credit Score?

A: If you’re having trouble paying your bills on your own, yes, a debt management company can help. And contrary to popular opinion, simply enrolling in a debt management plan does not impact your credit score. Read this article on the differences between debt management and debt settlement companies, and learn why I strongly recommend debt management firms.

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Q: I Need Help With Credit Card Debt But Am Worried About Scam Companies. Can You Refer Me to a Good Debt-Elimination Program, and Explain the Difference Between a Debt Management Company and a Debt Settlement Firm?

A: With the average U.S. household owing more than $10,000 in credit card debt, it’s no surprise that millions of consumers are turning to debt management companies or debt settlement firms to become debt free. However, there are enormous differences between these two types of organizations. A good debt management company, such as the National Foundation for Debt Management (http://www.NFDM.org), will offer free or low cost services, can help you preserve your credit rating, and will teach you to organize your finances and budget properly. It will also successfully negotiate with your creditors to give you financial relief.

By contrast, even with the “best” debt management companies, consumers often pay high fees, wind up with serious blemishes on their credit files, and receive little to no financial education. Additionally, while many debt management firms tout “guarantees” about their work, in reality they have no way to ensure that their questionable techniques and unorthodox negotiating methods will ultimately be effective. Read on to discover the downside to using the services of debt settlement companies – and why using a debt management company is far more advantageous.

The Hit to Your Credit Scores

The primary reason that I don’t recommend using debt settlement companies is that they typically advise you to stop paying your bills for a few months – sometimes as long as six months or more. At the end of that period, the debt settlement company goes to your creditors and tries to negotiate settlements on your behalf. The logic used by debt settlement firms is simple: They figure that after a few months of not getting paid, your creditors will be so eager to receive some money (instead of no money) that these creditors will gladly settle your debts for pennies on the dollar.

If only it were that easy.

The problem with this is strategy is two-fold. First, you wind up with serious black marks on your credit reports and you decimate your FICO credit scores. After all, just one late payment can drop your FICO credit score by 50 points or more. Imagine the damage done by being three to six months late on multiple accounts.

Another reason your credit takes a hit with debt settlement is that, when it is “successful,” your creditors agree to accept less than the full amounts owed (even though they will consider the balance as paid). The creditors often then turn around and report to the credit bureaus that your account was “Settled” or “Paid by Settlement” – which still tarnishes your credit records with Equifax, Experian and TransUnion.

Does Debt Settlement Work – Or Does is Backfire?

Additionally, there is no assurance that the methods used by debt settlement firms will work. Instead of caving in to a debt settlement company’s demands to let you pay, say, $30 for every $100 you actually owed, creditors may just decide to sue you, get a judgment against you, or garnish your wages. Needless to say, if any of these events happened, your financial situation and/or your credit would be worsened – not improved.

The Better Method – Financial Education and Reasonable Negotiations

Rather than use a debt settlement company, a better strategy is to first try to negotiate directly with your creditors. If your efforts fail, and you can’t keep up with your bills, then it’s time to enlist the help of a credit counseling agency/debt management firm. A good non-profit, HUD-certified credit counseling agency is the National Foundation for Debt Management. (www.NFDM.org). I’m a spokesperson for this organization, and I know that they do good work and are trustworthy.

Debt management programs are typically scheduled to take three to five years to complete; most debt settlement programs usually take two to four years. Fortunately, enrolling in a debt management program, also known as a DMP, shouldn’t backfire on you – as long as you continue to pay your bills on time. When you enroll in a debt management program, your credit files do include a notation that you are participating in a DMP. However, taking part in a debt management program does not adversely impact your credit rating, nor is it a factor in how your FICO score is calculated, according to executives from Fair Isaac Corp., the creator of the FICO score. Your credit rating also doesn’t suffer because you are paying back everything you owed in a typical debt management program. The cost savings come primarily from having late fees eliminated, and interest rates lowered – two key factors in helping you become debt free fast.

Don’t Forget About Debt Settlement Fees …. And That Big Tax Bill

Obviously, costs vary for debt elimination programs. But $25 a month is a common monthly fee for many debt management programs. Most debt settlement companies charge you in one of two ways:

• a flat fee, which often runs $1,000 or more, and may be based on how much money the debt settlement “saves” you by negotiating with your creditors

• a percentage fee, with fees of 15 to 20% of your total debt being typical
  • So for those with $10,000 in debt, fees would run about $1,500 to $2000 for a 3-year debt settlement program, compared with about $900 in fees for a typical 3-year debt management plan

Why Pay Thousands When You Are Already Thousands of Dollars in Debt?

Besides the fees cited above, it’s not uncommon for debt settlement firms to impose added monthly charges on their clients. These fees can be as low as $20 a month or as high $90 or $100 a month, depending on the company in question. Over time, therefore, consumers shell out several thousand dollars – on top of the initial fees charged – when they opt to go with a debt settlement firm.

Finally, when people enter debt settlement programs, they are usually required to make regular payments to the debt settlement firm before the company will negotiate with your creditors. In other words, they hold onto your money until they deem it’s the right time to approach your creditors. By contrast, with a debt management company, they’ve already pre-negotiated in advance with your creditors. So a debt management company should be able to tell you right away, for example, that your Capital One Visa card with an 18.9% interest rate will now be lowered to 7%; or that your department store charge card from Nordstrom, which was previously at 23.9%, will now be at 0%. (These are examples, of course, but it’s often the case that the pre-negotiated interest rates that debt management companies secure on your behalf will fall between 0% and 7%).

The IRS’s Viewpoint on Debt Settlement

If you enter into a debt settlement plan, one final hazard to be aware of is that you will have to pay taxes on the amount of money you saved. For instance, if your debt was $10,000 and the settlement plan says you only have to pay $3,000, you will be required to pay taxes on the $7,000 you saved. If you are in the 25% tax bracket, you’ll have to fork over $1,750 to the IRS, because the government deems your $7,000 in savings as income.

Clearly, there are many pitfalls associated with debt settlement programs – from unexpected taxes to high fees and damage to your credit rating. As a result, most consumers battling credit card debt and trying to become debt-free would be far better off seeking out the help and services of a reputable debt management firm.

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If you’ve tried negotiating with your mortgage lender, have adjusted your budget, and done everything in your power to pay your house note, but have still come up short – it may be time to seek government assistance.

Part of President Barack Obama’s $75 billion mortgage rescue plan is aimed at helping people avoid foreclosure – by either refinancing their house notes or modifying their loans. Many lenders, large and small, are even agreeing to delay foreclosure proceedings for homeowners that meet certain criteria. To find out if you’re likely to qualify for government assistance under the Home Affordable Modification Plan, visit http://www.MakingHomeAffordable.gov. This is where you can find out if you qualify for a loan refinance or a loan modification under President Obama’s housing plan.

Are You Eligible for a Loan Modification or Refinance?

To be eligible for a loan modification, you have to meet at least five criteria:

• the home must be your primary residence
• you must owe less than $729,750 on the home (the federal limit)
• you must be having trouble making payments (but you don’t have to be late)
• your mortgage must have been received before Jan. 1, 2009; and
• your total housing payment (principal, interest, taxes & insurance) must now exceed 31% of your gross income

To be eligible for a loan refinance, your existing mortgage must also be owned or insured by Fannie Mae or Freddie Mac. (That is not a criteria for a loan modification). To find out if your home loan is owned or insured by Fannie or Freddie, contact:

• 1-800-7FANNIE (8am to 8pm EST)
• www.fanniemae.com/loanlookup

or

• 1-800-FREDDIE (8am to 8pm EST)
• www.freddiemac.com/mymortgage

The Obama administration says its plan will help as many as 5 million homeowners refinance their mortgages and save their homes. The government’s loan modification program is designed to lower your interest rate to below 5% — perhaps as low as 2% — so that your payment is no more than 31% of your gross income.

Advice for Those With Delinquent Mortgages

• Get Your Documents in Order

Once you determine that you’re eligible for a loan modification, pull together a slew of paperwork: paycheck stubs, your last tax return, recent mortgage statements, an itemized list of your expenses, as well as anything that substantiates your financial hardship – such as those large medical bills, and a letter describing why you fell into trouble in the first place (i.e. a loss of income, etc.). You’ll need all these documents to backup your request for help. Only your current lender can modify the terms of an existing mortgage.

• Be Prepared For a Slow Process

One thing to keep in mind is that a loan modification is not mandatory. Lenders are doing these on a “voluntary” basis. Therefore, banks don’t have to reply to you in, say, 30 days, or even in 60 days. However, banks are getting “incentive” payments to do workouts/loan mods, so when President Obama launched this housing rescue plan, nearly all the major banks got on board and agreed to further postponements and freezes on foreclosures. Many of them signed agreements to participate. Here is a list of lenders/loan servicers on board with the program, according to the MakingHomeAffordable.gov website: http://www.makinghomeaffordable.gov/contact_servicer.html.

• Contact a HUD-Approved Housing Counselor

If you get stone-walled in trying to negotiate directly with your lender or loan servicer, you’re not alone. The same thing has happened to millions of people. To minimize your frustrations and possibly receive faster help, get a trusted third party involved. Contact a reputable non-profit agency, such as the National Foundation for Debt Management (NFDM), a non-profit agency with HUD-approved housing counselors that can offer you free assistance. Reach NFDM at http://www.NFDM.org or 866-409-6336.

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