One of the trickiest things about trying to tackle your debt is doing it without any help. It’s a lot of responsibility to not only come up with the funds to repay debts, but also to keep yourself accountable. Plus, there’s the fact that interest keeps accumulating in the background, making it harder and harder to get a handle on debts over time.
The good news is that solutions like debt management are designed to address some of these challenges. If you enroll in a debt management plan (DMP) through a credit counseling agency, you’ll start making a single monthly payment to the agency instead of having to juggle multiple payments to creditors each month — the agency will then send the funds along to each creditor. This means you’ll have someone on your side helping you eliminate debt and stay on track.
The agency may also be able to negotiate a general lower interest rate and get creditors to agree to knock off late fees, finally giving your finances a much needed break.
Like any potential strategy to release yourself from financial liabilities, debt management has a few pitfalls worth knowing about in order to avoid. Learn to identify these 8 common traps so you don’t fall into them.
1. Paying Higher Fees Than Expected
While meeting with a credit counseling company is usually free, enrolling in a DMP is not. It’s pretty typical to see a recurring monthly fee in the ballpark of $25 to $35. Many programs also charge a one-time, up-front enrollment fee.
Since exact terms and fees vary by agency, it’s very important to do your research up front so you know what to expect. Weighing the cost of fees against the potential savings will help you find the most fitting DMP for your needs and help you avoid being caught off guard by how much you have to pay the agency each month.
While paying an extra fee per month or so may not seem like a huge deal, DMPs usually last three to five years. So, a seemingly small difference in fee amount can add up to hundreds of dollars over the duration of the debt management program.
2. Assuming the Agency Made Every Payment
DMPs simplify repayment and distribution to all your creditors. You make a single payment to the agency and they distribute the funds accordingly; it’s that simple. But it’s still advisable to check that your payments went through with each creditor each month, instead of assuming the agency took care of it. In other words, you’ll still want to stay tuned into your progress and double-check their work to avoid further financial damage.
3. Getting in a No-Credit Crunch
You should be prepared to live without credit cards while enrolled in a DMP. Why? Being advised by a credit counseling generally means you’ll have to stop using credit or even close your accounts for the duration of the program. The consequences for accumulating more credit on a card enrolled in a DMP can even be creditors taking back those interest and fee reductions, which renders the entire thing pointless.
It’s important to plan how you’ll pay for essentials and non-essentials without using your credit card ahead of time — in other words, avoiding a “no-credit” crunch.
4. Accumulating More Debt After a DMP
Let’s say you’ve successfully completed a DMP program start to finish. After a few years, your debts that once seemed so staggering are gone. You’re free to do what you will. But beware: The temptation to start putting purchases on a credit card can be very strong. The last thing you want to do is find yourself in over your head again, so plan carefully for how you’ll change your behaviors going forward. Tucking away a percentage of each paycheck to build an emergency fund is one way to avoid taking on more debt in the future.
Credit counseling has helped many people climb out of a bad economic streak through debt management. Even if you don’t look for outside help, there’s still a few pitfalls to avoid while taking care of your current debts.
5. Not Having your Budget Clear for Every Month
Debts or no debts, the first thing you should know at the start of each month is your action plan. How much did you earn? How much goes to steady expenses like rent, services, subscriptions, your credit card, etc.? Once you paid for all those things, you’re left with a more tangible budget that you’ll be able to use freely to either save, invest or spend on leisure. Setting a clear budget that pays attention to your debts and then the rest will make you balance your finances and slowly get rid of debt.
6. Accumulating “Bad Debt”
That’s right, there actually is a bad type of debt, and also a good kind. When you’re spending money on something expensive that won’t end up helping you achieve a goal, we’re speaking of bad debt. Some examples of bad debts are booking an expensive trip, buying clothes or video games you don’t need and can’t afford and even getting loans with very high or variable interest rates. Just so you recognize them, good debts -on the other hand- can be considered student loans or mortgages. Even a good debt can turn bad if you don’t learn to manage it correctly and let the interests build up and start drowning you. Which leads us to the next point.
7. Sticking to the Minimum Payment
Just because banks and credits allow for you to make a minimum payment each month, that doesn’t mean you should do it. A minimum payment does nothing to your debt, except it helps interest rates increase and start building up month after month. Making minimum payment only covers a small fraction of the interests of your debt, but it will extend it and actually make it grow until you end up paying several times more than what you actually borrowed or purchased. When making your monthly payments, allocate your budget to pay for the full repayment instead of just the minimum.
8. Making Use of your Emergency Funds
As you might know, an emergency fund is one of the smartest decisions to take regarding your personal finances. Having a solid amount of money to cover for unexpected situations such as important illnesses, accidents, loss of job or even a family member, can have you covered for a while. But let’s face it, while having a big credit debt is an undesirable situation it is definitely not an emergency -since you could have easily prevented it and you can still manage it without touching your emergency fund.
Some of the pitfalls in this list are harder to fall into and others are so easy to overlook that you might have already done them. You could also fall into the “convenience” trap where the ease of getting an instant loan and quick money, for example, causes you to lose your debt discipline and you fall further into debt. The key is that if you realize you’re clearly doing something wrong when it comes to tackling your debts, then it’s time you get your numbers straight and start making your debts shrink until you reach a debt-free life.