What Is Credit Counseling?
- Credit counseling can help you get excess debt under control.
- Credit counselors may be able to get your interest rate or payments reduced.
- Credit counselors often offer debt management plans as part of their services.
Credit counseling is a service for people who have problems with unsecured debt like credit card balances or unpaid medical bills. Credit counseling organizations are usually non-profits and offer some or all of these services:
Budgeting and debt counseling
Personal finance workshops
Negotiating lower interest rates and/or payments with credit card companies
Credit counselors usually require you to close most or all of your credit cards as a condition of using their services. This is meant to keep you from adding to your debt while you're using their services to improve your financial situation.
How Does Credit Counseling Work?
Credit counselors can work in offices and meet with clients in-person, arrange credit counseling sessions online, or offer their services over the phone. So what's it like to go through credit counseling?
A typical first session may last 30 to 60 minutes and follow-up meetings may or may not be required. During your meeting with a credit counselor, the goal is to create an accurate picture of your finances so the counselor can help you develop a plan for managing them. Some of the things you'll likely discuss include your:
Income and assets
Budget and monthly expenses
You may be asked to prepare certain documents before your meeting with the credit counselor, including pay stubs, tax forms, bank statements or credit card statements. The credit counseling agency may ask your permission to pull your credit reports. This can help them better understand your overall financial situation.
Is Credit Counseling Worth It?
According to a study conducted by researchers at Ohio State University, the group receiving credit counseling paid down their balances at a higher rate than the group that did not receive counseling. Surprisingly, this did not necessarily lead to higher credit scores – possibly because credit counseling enrollees are usually required to close their accounts, and that can cause a temporary score reduction.
Other research has shown that people who complete credit counseling tend to feel more confident about managing their finances.
So the short answer is yes, credit counseling can be worth it. Whether it works for you, however, can depend on your individual situation.
What Services Do Credit Counselors Perform?
Credit counselors can offer a variety of services to help you get on track financially. Some of the things credit counselors can do include:
Helping you to analyze your spending and look for ways to cut expenses
Creating a workable budget, based on your income and spending
Developing a strategy for managing and paying down your debt
Discussing ways to improve your credit rating
Your credit counselor will review your financial information. Next, your counselor recommends an approach to your debt. For example, if you're looking for a way to streamline your monthly payments your credit counselor might suggest a Debt Management Plan (DMP).
Credit counselors contact your creditors and may be able to reduce your monthly payment, negotiate a lower interest rate, or get penalties waived. They then come up with a monthly payment, which you pay into your plan. This payment may be more affordable to you, or it might help you repay your debt faster. The counseling service distributes your monthly payment among your creditors.
Keep in mind that this type of credit counseling is a little different from pre-bankruptcy credit counseling. If you file for Chapter 7 or Chapter 13 bankruptcy, you're required to complete credit counseling and debtor education with an approved agency.
How Much Does Credit Counseling Cost?
You might be wondering if there's such a thing as free credit counseling, especially if your budget is already tight. The good news is that nonprofit credit counselors may not charge any fees at all for your initial counseling session. Nonprofit credit counseling organizations are generally more concerned with helping people to get their finances on track versus collecting fees.
Does that mean you won't pay any fees at all for credit counseling? Not necessarily.
If you're enrolled in a debt management plan, for instance, your credit counselor may charge an initial setup fee and/or a monthly processing fee. These fees can be limited by state law. In New Jersey, for example, credit counselors can charge a maximum setup fee of $40 and the monthly fee is also capped at $40. If you're considering a DMP, it's important to read through the fees first to make sure you know what you'll pay.
Does Credit Counseling Hurt Your Credit Score?
Simply meeting with a credit counselor shouldn't impact your credit score at all, unless the credit counseling agency performs a hard check of your credit reports. Hard credit inquiries can show up on your credit history and knock a few points off your scores.
However, closing accounts, which is generally a credit counseling and a DMP requirement, can cause your scores to temporarily drop. It reduces the average age of accounts, which makes up 15% of credit scores.
The good news is that making payments to the plan on time each month adds good payment history to your credit report. Payment history accounts for 35% of your FICO credit scores. And as balances fall, so does your credit utilization ratio (the portion of your credit lines that you borrow against). Credit utilization makes up 30% of your credit score. The Ohio State study found that over time, counseled consumers’ credit scores did increase.
Where to Find a Credit Counselor
If you're ready to find a credit counselor, there are a few places you can look for recommendations. Some of the options you might consider include:
United States Trustee Program (if you need pre-bankruptcy credit counseling)
You can use these sites to find nonprofit credit counselors that offer services in your local area. Once you've got a list of credit counseling agencies you're considering, the next step is researching them individually.
You can check with your state attorney general's office or your state consumer protection bureau to see if any complaints have been filed against the company. Next, reach out to credit counseling agencies to learn more about their services. You can also check consumer review sites, including the Better Business Bureau (BBB), for any negative reviews.
Here are some key questions to ask when vetting credit counselors:
What services do you provide?
How is credit counseling offered? (i.e. will you meet in-person, online, by phone, etc.)
Are there any fees involved? What are they?
Are fees waived for people who can't afford to pay?
Do you offer free educational resources?
What certifications or accreditations do you hold?
Asking these kinds of questions can give you a better idea of what you can expect when working with a credit counselor. If you know someone who's gone through credit counseling, you can also ask them for their perspective. They may be able to offer insight into a particular credit counseling agency that's on your shortlist.
What Credit Counseling Can’t Do
The most important thing to know about credit counseling is that it's not a quick fix and it won't necessarily help everyone. Credit counseling only works if you can afford the monthly payments and you're committed to changing the financial habits that led you into debt in the first place.
Credit counseling does not reduce your outstanding balances. Those who can’t be helped by credit counseling or debt management may need to consider stronger remedies like debt settlement. You may pay a fee for debt settlement services if you're using a debt relief company. But compared to filing bankruptcy, that could be a more attractive option.
You can’t file a bankruptcy petition without first completing credit counseling with an approved provider. When you finish the required session, you’ll get an authenticated certificate to file with the bankruptcy court.
Pre-bankruptcy credit counseling covers these topics: You’ll review these topics with your credit counselor:
Your personal finances
You can receive your counseling in person, by phone, or online. Sessions normally take an hour. Counseling costs about $50, but you can request a fee waiver if you can’t afford the service.
Many creditors work with credit counselors and are willing to make concessions if it will get them paid. Credit counseling can get your interest rates reduced, fees waived, and collection calls halted. Creditors are often willing to re-age your account, which brings its status to current. Eventually, you’ll catch up with your missed payments and pay your balance in full.
Credit counselors recommend that you close credit cards to help get out of debt. And if you enroll debt in a debt management plan, you’ll be asked to close those accounts. But you might need to keep a card for business travel or for emergencies. In that case, don’t enroll that card in the plan.