If you are struggling to regain control of your debt, you might benefit from considering a debt management plan (DMP). But, what exactly is a debt management plan and is it right for you? In this article, we round up everything you need to know to assess whether a debt management program can help you reduce your debt.
A debt management plan is not a new loan. Instead, a credit counsellor negotiates a repayment plan with your creditors on your behalf. Some credit counselling agencies also call this a Debt Consolidation Program for marketing purposes.
Who is a Debt Management Plan For?
Debt management plans are designed for people who are experiencing financial distress but are able to pay back their debts in full.
A debt management plan is typically best suited for people who:
- Are unable to secure a debt consolidation loan from their bank or credit union
- Have a low amount of debt (usually less than $10,000)
- Have only a few unsecured creditors, and
- Are able to repay their debts, but just need extra time and perhaps a lower interest rate to do so.
It’s important to stress that debt management plans are designed for people who are able to repay their debts, but who just need to negotiate more lenient terms (such as an extended timeframe or reduced interest rates).
What Does a Debt Management Plan Dost?
The credit counselling agency typically charges an administration fee of 10% of the monthly payment and this cost is added to your plan payment. You also must repay 100% of your outstanding balances within 5 years. This means your actual payment will be based on what you owe. Because you are paying your debts in full, to determine your monthly payment divide your debt by the number of months in the plan.
For example, if you have $7,500 in small debts that you want help with, you can arrange a debt management plan for $125 plus 10% in fees, or $138 a month for 60 months. If you have $25,000 in debts however, a debt management plan will cost you $458 a month for 5 years.
In most cases, creditors will waive interest, but they may not. Be sure to ask exactly what your creditors agreed to before making any payments. Lastly, if you don’t complete the program creditors will charge interest, often from the date of default.
When is a Debt Management Program Not a Good Idea?
Debt management programs work best for people with few, simple debts who can afford to pay them back. A debt management plan may not be your best option if:
- your debts are over $10,000
- you do not have sufficient income to afford the monthly payment based on a maximum 5-year repayment period
- you owe money to the Canada Revenue Agency who will not participate in DMPs
- you are struggling with student debt as government student loans cannot be included either
- you have multiple payday loans who will demand full payment if they even opt to participate
- you have lenders who will not cooperate
If you can’t afford to repay your debts completely or have complex debts, then a consumer proposal may be worth researching.
Because a debt management plan is voluntary, some people think it is okay to do a DMP for some of their debts, leaving out certain debts (like a credit card) or ignoring creditors who won’t go along with the program. Be careful that you don’t leave so many debts out that you really are not solving your financial situation permanently.
Finally, debt management plans are not legally binding, which means creditors can opt-out of the plan at any time. DMPs do not provide legal protection from wage garnishments and other creditor actions.
How Does Credit Counselling Affect Your Credit Score?
Just like any other repayment program, a notice will appear on your credit report that you have entered into a repayment agreement. This note will remain for the earlier of two to three years after your payments are completed or 6 years from the date you filed the plan, whichever comes first. You may be interested to know that this is the same credit impact as a consumer proposal which also allows you to settle your debts for less than you owe.
How to Get Onto a Debt Management Plan
The process begins with a debt assessment by an accredited credit counsellor. Always work with an accredited not-for-profit agency.
You, credit counsellor, will review your debts and budget to see if a DMP is suitable for you. They will then negotiate with your creditors to ask if they will allow your debts to be managed through a structured repayment plan.
Once the agreement is in place, you begin to make monthly payments to your credit counsellor, who will remit the agreed-upon payments to your creditors, pro-rata based on their balances. Once you are done, you have paid all your debts in full.
Your credit counsellor will also provide tools about personal finances to help you budget your money while you are participating in a debt management plan.
Finding a Credit Counselling Agency
If you choose to file a debt management plan, make sure the company or agency you select is both reputable and accredited. Besides seeking referrals from friends and family members and checking with the Better Business Bureau, you should ask these questions:
- Is the agency for-profit or not-for-profit? If the answer is not-for-profit, ask for its charitable registration number.
- Find out if the agency is registered with an accredited Credit Counselling Association.
- Ask if the person you will be working with is an accredited counsellor.
If you have a lot of debt and are unsure if a DMP is the way to go, we recommend talking with a Licensed Insolvency Trustee. All LIT’s in Canada are also credit counsellors. A credit counsellor can only offer a debt management solution and since they receive a payment from your creditors, this may bias them towards getting you to try a DMP. Failing at a DMP if you can’t afford the payments just sets back our goal to get out of debt. In contrast, a Licensed Insolvency Trustee is required by law to explain all your options, including a debt management plan, to ensure you choose the right option. If you can afford a DMP, they will recommend an accredited agency.