“Cut Your Payments in Half!” the headline screams. “Consolidate Your Bills into One Low Monthly Payment!” When you see ads like this, they are often from Credit Counseling firms. In this article, I’ll explain the principles behind the Credit Counseling approach and discuss the main problem consumers face when they join one of these programs.

First, let’s get our definitions straight. The term “Credit Counseling” is actually quite misleading, since it has nothing to do with preserving or improving your credit score. In fact, Credit Counseling can hurt your ability to get credit, an unpleasant reality that is sometimes downplayed by industry representatives.

People do not call credit counselors when things are going smoothly. Credit counselors are typically called upon when you have too much debt. These nonprofit companies offer debt counseling more than anything.

What can Credit Counseling do for you?

 
Credit Counseling is primarily a credit card debt management program where you make a single monthly payment to an agency. In turn, that agency distributes the money to your creditors on your behalf, ideally at lower interest rates so you can pay off the debt faster. Credit Counseling should not be confused with Debt Settlement, which takes a very different approach.

Of all the available debt options, Credit Counseling is by far the most popular, with millions of Americans participating. Does this mean it’s the best choice for most people struggling with debt? No! There are numerous problems with this approach.

Years back, the Credit Counseling industry had been heavily criticized by impartial consumer groups like the Consumer Federation of America. But these criticisms often miss the mark entirely. They usually focus on the aggressive companies that use their non-profit status to trick consumers into thinking they are charitable organizations, or even that their services are free of charge. In reality, those outfits charged hefty “voluntary” contributions, often adding up to hundreds of dollars, plus steep monthly fees as well.

However, I’m not talking here about the bad companies who provide little or no actual “counseling”. Much of the bad companies and practices are a thing of the past. I’m talking about serious problems with the actual business model itself. So, let’s take a closer look at how Credit Counseling works.

Let’s say you owe $25,000 on several different credit cards. Let’s also assume your average interest rate before you enrolled was 20%. Your minimum monthly payments are $750, which you’ve been struggling to keep up with.

You enroll in a Credit Counseling program that promises to get you out of debt faster. Assuming your creditors agree to participate in the program (not always the case, such as when peer to peer lenders refuse to work with the nonprofit agency), the real key is the concession they will grant on your interest rates.

Your repayment plan with a credit counselor can vary from one person to the next. Some things that are consistent will be:

• Debt management plans cannot exceed 60 months, or 5 years in length.

This means your income and expenses have to be able to match up with the ability to repay the balances you owe over this time limit, or less, or you will not be offered a plan.

• Your balances will be paid back at the rate of between 1.7 to 2.5 percent owed.

You can get a feel for whether or not you can afford a debt management plan by calculating as little as 1.7% of, say $25,000 of credit card debts. At the low end, your payment through the credit counseling agency would be $425 monthly. At the high end your payment would be $625.

If you’re already paying close to the high end, there is little benefit to working with a credit counselor.

Note: As of this update to this article, in November of 2016, there are potential changes to the range of payments you can get through a credit counseling agency. In the future, you may be able to qualify for a little less than 1.7%, but only if your monthly income and expenses match up with your creditors discretionary budget models.

So how can credit counselors claim to cut your payments in half? Good question. In most situations, they can’t. Be careful of those who claim they can, and also be aware that companies advertising to cut your debt in half are generally not offering a credit counseling styled debt management plan at all.

Credit counseling is typically for someone who has a short term financial setback, and who has a dependable and steady income.

How to check out a credit counseling agency.

 
If you do decide to join one of these programs in order to obtain some credit card payment relief, be sure to do your homework first. Here are a few tips to help in your selection:

1. Look for a company that actually provides old-fashioned budget advice and counseling. If they want to sign you up right away without first understanding your budget situation, move on!
2. Obtain copies of the contract and read it carefully before signing up. Make sure you understand all of the fees involved. Are there enrollment fees? “Voluntary” contributions? Monthly fees? Extra fees per account? These fees can add up to make the monthly payment unaffordable. Most nonprofit credit counseling agencies offer debt management plans for no fee to a small percentage of people they work with (you have to qualify for zero fees).
3. Make sure they work with all the creditors on your list and not just some of them. If they do not work with some of your creditors, be sure you can manage those payments on your own, and the payment to the counseling agency. If you cannot, you may not be helping your situation much if you decide to still work with the counseling company.
4. Don’t be fooled by “non-profit” status. That doesn’t guarantee you’re dealing with a good company. And it certainly doesn’t mean the service is free!
5. Try to find a local company that you can visit in person. Check out your target company with the local Better Business Bureau. Meeting with a local agency is getting harder to do after more than 300 counseling companies have been reduced to 100 or so in the last few years. Most of the agencies that remain are national, and can work with you even though they may be in a different state.
6. Make sure they provide support after the sale. Try calling their customer service number to see if you can get through promptly.

Remember, you can eliminate your debts if you take a disciplined approach to your finances, make a budget and stick to it, and don’t use your credit cards unless you can pay off new balances in full each month.

Good luck in your financial future!

UPDATE November 2016: This page has been updated to better convey the realities of Credit Counseling today. It is ideal to call a credit counseling agency to get an exact quote of what your lower monthly payment could be. The calls are free to make, and worth the effort. You may learn enough to cross credit counseling off your short list of options, and can then progress looking into other solutions, such as settling for less or bankruptcy.