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Debt Consolidation May Be Right for You

When IOUs pile up, debt-management programs can help get borrowers out of a hole.
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Debt consolidation plans look good, but the question is whether they really work.

You've seen the ads on television or on the Internet promising to help you get out from under the mounds of credit-card debt you've accrued over the years. While their flashy images and promises to get rid of your debt are hypnotic, credit-strapped consumers need to look beyond the hard sell before signing up.

Credit-card debt is at a record high because "wages haven't kept up with inflation and the cost of living," says Gerri Detweiler, consumer educator and credit advisor. "Younger Americans are the fastest rising group with credit-card debt because they're trying to live the life their parents have."

Also, there's the pressure to spend.

"We live in a very commercial culture," says Detweiler. "It's hard to buck that trend. We've raised Generation Debt."

Until recently, it was easy to get a credit card. It was not uncommon to have multiple credit card companies on college campuses all over the country signing up college students on a daily basis.

"It was like handing sugar to a kid," says Detweiler. "Now, lenders have reduced their risks and it's not as simple as before."

What is a debt consolidation plan?

A typical plan usually includes working with a credit counselor at an agency approved by the

National Foundation for Credit Counseling. The two main goals of any debt management plan are to help repay your debt and help your creditors receive the money owed to them.

Making Plans

A good candidate has three things going for them, according to Detweiler.

  • You're in credit-card debt only. You don't have any car loans or even a mortgage to worry about, just the unsecured debt.
  • Your budget has some wiggle room, so you're able to pay living expenses and your debt. A credit counselor will show you how to work with what you have, pay off your debt and still be able to handle the things that invariably come up in life.
  • You have a steady income. If you're unemployed, a debt management plan is not for you. You're better off either filing for bankruptcy or participating in credit negotiation.

After going over your finances, a credit counselor will work with your creditors to negotiate lower interest rates and perhaps eliminate late fees. Once the negotiations are completed, you're put on a debt management plan where you agree to deposit funds each month with your credit-counseling agency, which will be distributed to your creditors. The added benefit is that you make only one monthly payment instead of several.

Part of the agreement is not to take on additional debt while on this type of plan, since all accounts are closed while in the program.

The goal, after all, is to develop a plan to fundamentally improve both your credit and financial standing, which takes time and patience. The length of the process depends upon the amount of debt owed and how much the monthly payment is.A typical debt management plan makes about 3.5% off of each monthly payment. So, if your payment is $100, the company is paid $3.50 by the creditor.

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It isn't an easy road, however. According to a 2001 NFCC study, only 21% of those who enter a debt-management program completed it successfully.

Fraud Is Everywhere -- Do Your Homework

Unfortunately, debt management plans are rife with fraud. In March 2005, AmeriDebt was forced to shut down its debt management business as part of a settlement with the

Federal Trade Commission. The FTC charged that AmeriDebt misrepresented itself as a nonprofit credit counseling company and it deceived consumers into paying roughly $170 million in hidden fees.

According to the complaint, the company claimed it would teach their clients how to manage their money for no upfront fee. AmeriDebt allegedly took their clients' first monthly payment as a fee instead of distributing it to creditors. By the time creditors got any type of payment, the client was already behind and at risk of having their credit damaged even more.

A disreputable counseling agency doesn't care if you're a good candidate or not. They use a high-pressure sales pitch rather than performing a true evaluation of your finances.

Also, these companies don't offer any type of relief. Your main debt could be a student loan, car note or a mortgage -- or a combo of the three -- none of which will be helped in a traditional credit-counseling program.

Check with the NFCC's Web site for approved credit counseling agencies.

Which is more important: your mortgage or your credit-card debt?

"Some of our clients are not only facing large credit-card debt, but are also having a tough time paying their mortgage," says Todd Marks, vice president of education at Consumer Credit Counseling Services in Dallas.

If the mortgage is behind, it's more important to keep it up to date because it's secured debt. Marks stresses the importance of communicating with your mortgage company about your situation. Ignoring letters and phone calls is not the way to avoid foreclosure.

"Not losing your house is a bigger concern," says Marks. "Once we've solved that issue, then we can talk about your credit."

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Julia Gray is a former Hollywood assistant film/video editor and now freelance journalist who writes primarily about pop culture, real estate and whatever subject is thrown at her. Her articles have appeared in The Beachwood Reporter and She lives in Chicago.