Four reasons to choose a Debt Management Plan over debt settlement

While the option of using credit can seem to provide freedom, it ultimately results in debt. Having debt can feel like a weight on your shoulders, bringing on feelings of stress and making it difficult to stay afloat financially. 

If you are feeling this way — or worried that you will feel this way sometime in the near future — it’s time to take action. Two main options for paying down debt include a Debt Management Plan (DMP) or debt settlement. A DMP is a powerful tool for regaining control of your finances — shedding that weight on your shoulders. While going through a debt settlement company is another option, it usually creates more issues than it resolves.

Here are four reasons why a DMP is better for your finances than debt settlement.

1) Debts are paid in full after completing a Debt Management Plan.

With a DMP you will pay back every penny that you borrowed. This is important because it will show on your credit report that you paid off in full the debt or debts on your DMP. 

On the other hand, with debt settlement your debts are paid off, but not in full.

What this means is a debt settlement company will try to settle your debt for less than what you owe. That sounds great because you don’t have to pay off the full amount, right? Unfortunately, it’s not that simple. Because the debt will not be paid off in full, your credit report will say something like, “Settled for an amount less than agreed upon,” which can negatively affect your credit score. 

2) A Debt Management Plan can improve your credit, while debt settlement negatively impacts credit.

As mentioned in number one above, paying off debts in full has a positive impact on your credit score. So, continuing to make on-time payments on a DMP, plus fully paying off debts, will help you either maintain your good credit or improve it if you have had any credit snafus in the past. On the other hand, typically the debt settlement company will not send any payments on your behalf to your creditors until the debt is past due. This is because it’s very rare (if not impossible) to settle a debt that is in good standing/current on payments. This is going to significantly impact your credit — in a bad way. 

3) There are potential tax consequences with debt settlement.

If you sign up with a debt settlement company and creditor(s) accept a forgiveness/settlement amount over $600, you must file a 1099-C, a Cancellation of Debt Form, with the IRS. This means you might have to pay taxes on the debt forgiveness. And if multiple creditors accepted more than $600 in forgiveness, you may be left with a substantial tax bill. Therefore, what you end up paying in taxes can significantly reduce the amount you save settling your debts.

The good news is that with a DMP, there is no forgiveness of debt. This brings peace of mind knowing you won’t have to deal with additional tax forms or tax-related payments.

4) Debt Management Plans can cost you less.

While you will pay a small monthly fee to administer your DMP, the nonprofit organization servicing your DMP is usually able to secure lower interest rates from your creditors on your debt. Additionally, many folks on a DMP might also get reduced payments on one or more of their debts. A bonus of signing up for a DMP with us is the ongoing, free support you receive while you’re on the DMP to help you achieve your financial goals.

When you sign up with a debt settlement company, there is typically a large sign-up fee and/or monthly fees. The other not-so-good news is that while you’re making a monthly payment to the debt settlement company, they’re holding onto those payments until they have enough money to settle the debt. The even worse part is that because you’re technically missing payments, creditors will charge you late fees. There is also no guarantee that your creditors are going to accept the settlement offer.

Since debt collectors are likely still pursuing you due to missed payments, you are at risk of having a judgment filed against you, which could result in wage garnishment. Not to mention, you are paying a fee for settlements that you could request on your own for free.

It’s important to note again that if your credit is in good standing and you haven’t missed any payments, the DMP is always the better option, as creditors most likely won’t settle on a debt until you have fallen behind on payments.

Whether you had credit card debt from the last or current holiday season or had to take out credit to pay off a medical or debt bill, a DMP can help. Call us at 888.577.2227 to set up a free, confidential appointment, or get started by creating a financial profile online. Our certified, nonjudgmental financial counselors can explore options with you to eliminate your debt, including starting a DMP. They can also work with you to create realistic budgets, improve your credit score and achieve your financial goals. So don’t wait — take action today!  

Author Elaina Johannessen is program director for Debt Management Plan Operations with LSS Financial Counseling.