Debt settlement plan will trash credit score

Don TaylorQuestionDear Dr. Don,
I have a 525 credit score and am currently going through a debt management company. What do you know about these types of companies?

Also, I have eight delinquent accounts on my credit report. Would it be better to pull a debt consolidation loan and pay the accounts off? Or would going through a debt management company be a smarter choice? Which one will help me to boost my credit score? And will it affect my credit score if I can get the creditors to accept settlements for less than owed?
-- James Jericho

AnswerDear James,
Before signing with a firm, you need to read the FTC's Facts for Consumers publication "Fiscal Fitness: Choosing a Credit Counselor" as well as Bankrate's FAQ about debt and credit counseling.

Most consumers considering a debt consolidation loan are looking to do it through either a cash-out refinancing on their first mortgage, or a home equity line of credit or home equity loan. It's fairly hard to find an unsecured debt consolidation loan with terms that make things easier for the indebted consumer.

A debt management plan shouldn't hurt your credit score, but it may impact your ability to access new credit. The Bankrate feature "Debt management plans affect your credit" explains all this in greater detail.

In contrast, I've never heard of a debt settlement plan that didn't first trash a client's credit. That approach helps get creditors to accept pennies on the dollar as a settlement. The debt settlement firm representing the client may or may not be able to get the creditor to indicate on the client's credit report that the debt was paid as agreed. That's the goal, but there's no guarantee.

Bankruptcy can be the best choice for getting out from under unsecured debts. It'll impact your credit score for seven to 10 years, depending on whether you file a Chapter 13 bankruptcy (seven years) or a Chapter 7 bankruptcy. If the choice is between debt settlement and bankruptcy, I'd lean toward bankruptcy. If the choice is between a debt management plan, or DMP, and bankruptcy, the DMP is likely to be the better choice.

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