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Debt Management Plans

More and more companies are advertising debt management plans (DMPs) as the solution to everyone's money troubles, with the rise of consumer debt and the weakened economy. While debt management plans (also called debt settlement or pooling) may help some people get back on solid financial ground, they can also lead to more headaches for consumers. That's because many DMP agencies charge high fees for services that consumers can take care of themselves. And the recent proliferation of scams by companies that offer debt management plans means every consumer should be extremely cautious before signing up.

What Is a Debt Management Plan?

A company that offers a debt management plan (DMP) will work with you and your creditors to develop a plan for payment of your unsecured debts. Some creditors will agree to waive certain fees and reduce interest rates as part of the plan. In a typical DMP, a consumer deposits money into an account every month, and the credit counseling agency or debt servicing company uses these funds to pay bills under the plan. Usually, consumers make regularly scheduled payments into the account for three to five years. Under the terms of many DMPs, a consumer pays the debt management company a fee on top of these monthly deposits.

Companies offering debt management plans often bill themselves as credit counselors. Some are legitimate nonprofit credit counseling agencies, but many are not. For the most part, debt management companies get paid in one of two ways:

• Some charge fees to the consumer as detailed above (these monthly fees are often called "contributions" or "donations").
• Some are paid by the creditors, who may voluntarily rebate a small percentage of the funds being paid by the consumer under the plan.

The Proliferation of Debt Management Plan Scams

The recent rise in consumer debt has brought disreputable credit counseling agencies (and debt management companies) out of the woodwork. In testimony before Congress in 2004, the Federal Trade Commission (FTC) detailed the huge increase in DMP-related scams and abuses by credit counseling agencies and other companies, including:

• failing to pay creditors on time under the terms of the DMP
• not paying creditors at all and pocketing deposits made by consumers
• making promises (like lower interest rates and reduced fees from creditors) that they can't or won't keep
• hiding high fees charged to consumers (sometimes by skimming from deposits meant for creditors)
• exaggerating the amount of money consumers will save with a DMP
• lying about the company's nonprofit status
• using nonprofit status as a "badge of trustworthiness" to attract customers, then funneling unreasonably high fees to a for-profit company, and
• promising to provide financial advice and education to consumers, then just automatically enrolling customers in a DMP without providing any kind of counseling.

With the recent economic downturn, DMP scams have become so prevalent that in October 2009, the attorneys general of 40 states asked the FTC to strengthen its regulation of companies offering to enroll consumers in DMPs. According to these state officials, DMP scams have surged to the point where they are now the most common type of consumer complaint. These state attorneys general have also taken action on their own, bringing multiple lawsuits against companies offering DMPs, including charges ranging from fraud to unfair business practices.

Is a DMP For You?

Even if you're considering a DMP that is offered by a legitimate credit counseling company, you should still use extreme caution before signing on the dotted line. These companies often charge substantial fees for their services, but you may be able to take similar steps on your own by contacting your creditors and working out individual payment plans. You may even be able to persuade your creditors to reduce fees, interest rates, and the principal amount that's due. You can then use the fees you would have paid to the credit counseling agency to pay down your debts faster or to build up an emergency fund. (To learn more about working out payment plans on your own, see Nolo's article Dealing With Debt: An Overview of Your Options.)

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