Debt Counselors: Which of These 3 Ways To Consolidate Debts Is Right for You?
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Jordan Rosenfeld
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Molly Sullivan
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If you find yourself unable to get out from under burdensome, high-interest debt despite your best efforts, it might be time to consider debt consolidation. There are several key ways to do this, each one with slightly different processes and results.
You can get a consolidation loan, work with a consolidation agency to create a debt repayment plan or negotiate a debt settlement.
Debt counselors explained the variations in these processes so you can see which one might be right for you.
Consolidation Loans
A consolidation loan is a single loan used to pay off multiple debt balances, according to Martin Lynch, president of the Financial Counseling Association of America (FCAA). To qualify for one of these loans, you do need to have relatively good credit standing and credit score so you can get an interest rate that is better than those on the debts you’re trying to pay off, Lynch said.
“The clear benefit is saving money while paying down debt balances.”
The biggest potential drawback to a consolidation loan is when it doesn’t solve your spending habits, Lynch explained.
“[Borrowers] take out the new loan and begin paying down their balances, but they fail to address the overspending behavior that created the problem in the first place. Then they start running up their credit card balances while they’re still paying off the consolidation loan, negating the savings they hoped to achieve.”
April Lewis-Parks, director of education for ConsolidatedCredit.org, agreed that sometimes a consolidation loan can act as a “band-aid solution,” in which you’re “trading one debt for another without addressing the root cause.”
To make this method work for you, she said, “It’s critical to pair any debt solution with a plan to change spending habits, close revolving accounts and stick to a realistic budget. Otherwise, a consolidation loan can become a temporary fix that makes the situation worse in the long run.”
Consolidation Counseling Debt Management Plan
A second approach is to work with a nonprofit consumer credit counseling agency, like those that belong to the FCAA, through a debt management plan.
A consolidation counseling repayment plan, also known as a debt management plan (DMP), is a structured program designed to simplify and accelerate debt repayment, Lewis-Parks explained.
“A credit counselor works with creditors to combine debts into one manageable monthly payment while significantly reducing interest rates — even if you have a low credit score or a poor repayment history.”
With interest rates typically reduced by 3% to 11%, a DMP helps you save money and stay on track with structured, consistent payments, Lewis-Parks said. Unlike other options, you don’t need to take out new debt, and participants also benefit from financial education to build better money habits.
“However, one requirement is that the accounts included in the plan are closed, preventing further charges. In the long run, most people see an increase in their credit score.”
This kind of a plan is worth it if high-interest rates are preventing you from making progress, Lewis-Parks said. “It’s always better to take control of your finances sooner rather than later, even if it means some short-term credit pain. A lower interest rate and a structured plan can save you thousands and give you peace of mind,” she said.
Consolidation Settlement
Lastly, some people opt for debt settlement, where you agree to settle up an account usually at a reduced amount owed.
Karen Carlson, vice president of education and digital marketing for InCharge Debt Solutions, warned against these, except as a last resort. “Debt settlement is not a good option for most people because only four in seven creditors ever agree to a settlement, it destroys your credit score and you’ll still have debt to resolve after a portion of your accounts have settled.”
Additionally, you’ll have to pay high fees to the settlement company and there are tax liabilities, so your out-of-pocket is really not going to be different from the other options.
Lynch also explained that while many settlement clients believe they’ll save lots of money because they expect to pay just 50 cents on the dollar, they often don’t realize that the settlement company will charge a hefty fee — generally about 15% to 25% of the amount “saved.” Worse, the amount forgiven through the settlement will be taxed as additional income.
The only time he sees it as worth doing is “if you already have access to a sizable amount of cash — enough to settle all of your accounts within six months — and you don’t care about the significant damage your credit score will suffer.”
When It’s Time To Choose
If you have to choose, debt management plans are ideal for those struggling with high-interest credit cards who feel overwhelmed and will benefit from financial education and long-term planning, Lewis-Parks said.
“Choose a consolidated loan if you have a good credit score (750+), want to simplify payments, and can qualify for a lower interest rate than your current debts. It’s best for disciplined borrowers who won’t reaccumulate debt. Debt settlement is for people who are behind on payments, facing collections or contemplating bankruptcy. It’s not for everyone, but it can help in the right circumstances.”
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