Debt Management vs. Debt Settlement

Out-of-control debt has a way of taking over your life. High interest rates can cause your balances to climb higher each month, and the higher balances hurt your credit score, making it more difficult to obtain financing for important household expenses or personal needs. As the debt grows, so does your stress.

Some debt, such as a mortgage or car loan, can be used strategically to improve your financial circumstances. Owning a home allows you to build equity and increase your net worth, and a car enables you to travel to work, expanding the range of employment options available to you. But unsecured debt, such as personal loans, credit cards, payday loans, and medical bills, can overwhelm you if you can’t pay them down quickly.

Fortunately, there are options for regaining control of your finances. Debt management and debt settlement programs can help you work with creditors to pay off your debts or pay a lump sum that is less than what you owe but still closes the account.

Neither option involves a credit check, although both will impact your credit score long term. The two key differences are whether you’re repaying the debt in full and whether the creditor is involved when establishing a repayment plan.

You use a debt management plan if you have the ability to service your debt and you don’t want a lot of damage to your credit. A settlement plan involves not paying your bills in hopes that a creditor will settle, and it can significantly hurt your credit. Debt management may be a better option if you plan to buy a house or will need good credit for other types of financing, but the choice comes down to your circumstances.

What is debt management?

A debt management program allows you to effectively consolidate all your eligible debts into a single monthly payment. Typically, you’ll work with a debt management program that contacts each of your creditors and asks them to lower your interest rates and waive future late fees and penalties.

A lower interest rate enables you to pay down the principal faster, providing a clear path out of debt. After agreeing with your creditors, a debt management counselor will determine the final total of how much you owe and what you’ll need to pay each month to pay off the debt within five years.

Your monthly payment will also include the debt management company’s fees as well. These vary by organization, and many states cap the amount firms can charge.

 Most debt management companies are nonprofits, so they don’t charge exorbitantly for their services. But you’ll want to make sure that you’re saving money on the monthly payment once the decreased interest rate and company fees are included. If you agree to the plan and can afford the installment amounts, you’ll send one monthly payment to the debt management company instead of several payments to different creditors. The program will then disburse that payment to all your participating lenders.Debt management programs can be a helpful option if you can only afford your minimum monthly payments and aren’t making progress on repaying the loan. These programs have a maximum repayment period of five years. Once you’ve set one up, you can see the light at the end of the tunnel.

“It’s a win-win for the client because all of that collection stuff stops and they get a lower payment,” said Phil Heinemann, executive director and president of Debt Management Credit Counseling Corp. “And it’s a win for the creditor because they’re getting the debt paid.”

Still, no program is a perfect fix, and you should know both the benefits and disadvantages before you decide to pursue debt management.


  • Lower interest rates and fees: If you’re paying a high interest rate and have missed some payments, the late fees and interest you accrue on top of the principal add up quickly. And if you’re barely covering the interest with your monthly payments, you’re going to have a tough time getting out from under the loan. When creditors agree to reduce or eliminate interest and late fees through debt management, what you owe may decrease considerably. This makes paying off the debt more achievable — and lower balances mean a better credit score.
  • Pay off the debt in full: Although you may owe less interest and fewer fees through a debt management program, you’re still repaying 100% of the principal that you borrowed. That’s important, because paying less than that can hurt your credit. Making good on your debts will keep your accounts in good standing.
  • Opportunity to improve your credit score: As noted above, lower balances help boost your credit score, but so do on-time payments. Under a debt management agreement, you’ll make a single payment to the management company, which will then ensure that your creditors are paid on time. That good behavior gets reported to the credit bureaus, ultimately helping you rebuild if your score has dropped while you struggled with debt.

The average score rose from 613 to 647 within 18 months. A rising score boosts your borrowing power in the future.

  • Receive financial counseling: Debt management programs will sometimes offer ongoing counseling and support during the repayment agreement. A good credit counseling program can help you make proactive decisions and avoid falling deep into debt again. Billie said AAA Fair Credit Foundation provides not only debt and credit education but can help with issues such as securing affordable housing.


  • Accounts will close: Although you’re repaying them, creditors will close your lines of credit if you enroll in a debt management agreement. This makes sense because they’re offering lower interest so that you’ll pay them back — not so that you can take advantage of the improved rate. Companies will sometimes reopen lines of credit after the debt has been paid, but there’s no guarantee.
  • Credit may take a hit: The closed accounts may lower your credit score for a short time. But the negative effects could be balanced by the decreased debt total and your record of on-time payments.
  • Monthly payments may still be high: Debt management makes repayment more manageable. But if you’re deeply in debt, the monthly obligation may still be high. You need to pay back all of what you borrowed, so if the original number was significant, there’s only so low a creditor will go with their offer.

 Assuming the debt management counselor can get that down to $700 from $1000, that’s still a big number. If you can’t make the reduced payment, you may need to look into debt settlement instead.

What is debt settlement?

Debt settlement provides a way out of debt for borrowers who cannot afford to repay their obligations in full. Someone who has low income is unemployed or is otherwise financially burdened may be able to seek relief through debt settlement, though this process can be stressful and emotionally challenging.

Typically, a settlement program is geared toward somebody that’s already in default, credit’s already shot, and basically they just want to liquidate this debt for the least amount of money they can pay, Heinemann said. He estimated that borrowers generally pay 40 cents on the dollar in settlement programs. If you choose to work with a debt settlement company, it’ll assess your qualifying debts and estimate how much it thinks your creditors will be willing to settle for, typically a percentage of your existing debt. Then they’ll calculate your monthly payments based on that estimate. Rather than paying your creditors each month, you’ll send money to the debt settlement agency, just as you would with a debt management program.

But, unlike the former, the settlement company will hold those payments in an escrow account — not distribute them to the credit companies. In about six to eight months, creditors may become willing to discuss settlement options if they are convinced you cannot pay the full debt. Once your settlement company reaches an agreement, it’ll use the money you’ve deposited to pay off the creditors. You’ll also be charged a fee for the settlement services.

Although debt settlement may seem like the only option for some people, it’s important to know that it will significantly harm your credit. While you’re sending those monthly payments to the settlement company, your creditors are not being paid. This means that you are accruing interest, late fees and other penalties. The growing debt, and the delinquency will appear on your credit record.

Creditors can also be very aggressive in their collection tactics. The settlement process can take years, and you and your loved ones must be prepared for intimidating phone calls, letters and the possibility of a lawsuit or wage garnishment before the accounts are finally closed. Even if you work with a reputable debt settlement company, you may still be sued if the creditors decide against settling. The New York City Bar found that borrowers often end up with greater debt and increased financial hardship as a result of the settlement process.

Let’s review some of the key points of debt settlement here:


  • Don’t have to repay the full amount of your loans: If you know there’s no way you can repay the principal on what you borrowed, a debt settlement allows you to repay what you can. This can provide some financial breathing room for you and your family.
  • Lower monthly payments: Because you’re not repaying the full amounts, the monthly payments you send to the debt settlement company are lower than they would be with a debt management program.
  • Settlement company acts as an intermediary with creditors: Once you’ve signed on with a settlement company, it’ll request that your creditors conduct all correspondence, including phone calls, through it. It can also issue cease-and-desist letters to try to prevent creditors and collection agencies from constantly calling you to collect the debt.

“It’s good for the client in that they don’t really have to deal with the calls because they got somebody else to take them,” Heinemann said. “But it doesn’t really change things because they’re still not paying their debt and the creditor’s not happy.”


    • No guarantee of settlement: Creditors don’t have to settle on your account. They may decline to negotiate with the company and use other means to collect the debt, including getting a legal judgment to garnish your wages.
    • Credit will be badly damaged: Every month that you don’t pay your creditors, they will report that delinquency to the credit bureaus. Even if they settle, they’ll report that you repaid less than you owed, which will hurt your credit as well.
    • You can still endure harsh collection tactics: Again, creditors aren’t obligated to settle and they have legal grounds for attempting to collect the debt. They may call you frequently, send aggressive-sounding letters and hire collection agencies to get in touch with you. Creditors can also sue, and not all of them will settle through your company.
    • You may owe income tax after the settlement. Credit companies can report the charged-off amount to the IRS, and you may owe income tax on the forgiven debt. If you continue to experience a financial hardship, you may be able to apply for an insolvency exemption, but not everyone qualifies.

The final alternative after debt settlement is filing for bankruptcy, which many people choose to avoid, whether for moral or religious reasons or because their jobs prevent them from doing so.

Get started managing your debt

The first step toward debt repayment should be talking with your creditors. Many companies have internal relief programs and may be able to offer you modified terms for some period until you’re able to make full payments again.

If you are experiencing a sustained hardship or know you won’t be able to make full payments once the relief period ends, you may want to consider a debt management program. Before making any decisions, sign up for credit counseling. Debt management and settlement companies are required to offer free credit counseling and budget reviews, and a counselor will help you decide whether either of these is the right option.

Before you sign on with a debt management or settlement plan, make sure you do your homework. Visit the National Foundation for Credit Counseling and Financial Counseling Association of America websites to look up licensed nonprofit credit counseling agencies in your area. Be sure to look into reviews submitted with the Better Business Bureau, as well as find out how other consumers have fared with the organization.

If all you see is angry customers saying, ‘They took my money and my credit’s worse than it was before,’ definitely a big red flag.  Unclear and misleading language should always be a signal that a company is untrustworthy. Other red flags include any upfront payment requirements. Debt management programs must offer free counseling before enrolling clients, and debt settlement companies legally cannot charge fees until a settlement has been made. Any company that demands an upfront payment should be avoided.

Businesses that pressure you to take immediate action should also be regarded with skepticism. There are no deadlines for enrolling in debt management or settlement, so if a representative insists you act immediately, you’re better off looking elsewhere.

Choose for yourself

Most importantly, take the time to meet with a counselor and consider the options before you. Everyone’s circumstances vary. What a friend or relative did to escape debt should have no bearing on what you choose to do.

DMCC is a 501 (c)3 nonprofit organization committed to educating consumers on financial issues and providing personal assistance to consumers who have become overextended with debt.  Education is provided free of charge to consumers, as well as personal counseling to identify the best options for the repayment of their debt. To speak to a certified credit counselor, call toll-free 866-618-3328 or email is located at 1330 SE 4th Ave, Suite F, Fort Lauderdale, FL 33316.

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