Debt Management Plan vs Debt Settlement - Which is Right for You?

Debt management plans (DMP) and debt settlement (also known as debt resolution) are both effective ways to pay off debt, but they work differently. They also have different features and limitations, so it’s important to understand how they both work so that you can make the right decision for you.

Debt Management Plans

One monthly payment

Your debts are consolidated into a single monthly payment, sent to the agency managing your DMP. These funds are then disbursed to your creditors on your behalf.

Interest rate reductions

Participating creditors typically offer significant interest rate reductions for accounts paid through a DMP. At MMI, the average interest rate for accounts included on a DMP is just over 7%.

Debts are paid in full

Over the course of your DMP, your included credit accounts will be paid in full once your plan is completed, which takes about 48 months on average.  

You’ll save money

The sizable interest rate reductions on a DMP mean that you'll save a significant amount in reduced interest charges. MMI clients save an average of over $42,000 when successfully completing their program, as compared to making minimum payments with their original interest rates.

Your credit will likely improve

Assuming you make your make your required payment on time every month, it's very likely that your credit will have improved by the end of your program.

Read more: Credit Impact of a Debt Management Plan

Collection efforts should stop

If your accounts were delinquent prior to beginning a DMP, you may be receiving collection calls and letters. Once a creditor formally accepts the terms of a debt management plan, however, those calls and letters should stop. As an extra bonus, many creditors will actually re-age your account after a certain number of DMP payments - which essentially means they'll consider the account current even if you never made up those missed payments.  

You won’t be able to keep charging

During a DMP, your included credit accounts will be closed, meaning you won't be able to use those accounts for new charges. It's also recommended that you don't apply for new credit cards during a DMP, as creditors may choose to rescind your DMP benefits (reduced interest, waived fees, etc.) if they see that you're continuing to create new debt.

You might not be able to afford it

Debt management plans that are facilitated by nonprofit credit counseling agencies like MMI are required to be part of a sustainable budget. In other words, a credit counselor cannot suggest a DMP if the payments aren't affordable for you. While counselors strive hard to create a budget that supports your debt-repayment goals, it may be that your income is not enough to sustain your living expenses and a debt management plan.

Debt Settlement

You’ll pay less than what you owe

Settling your debt means you'll reach an agreement with creditors where they accept less than the full amount owed as the payoff amount. Settlement is the only repayment method where you pay less than what is owed, making it the most affordable option for most consumers. 

It may be difficult to know what you'll pay

Because debt settlement involves ongoing negotiations with each of your creditors, it's almost impossible to know exactly what it will ultimately cost you. You'll almost certainly pay less than what you owe, but the exact amount will need to be fluid throughout the process. 

Your credit score may drop

Creditors generally will not negotiate a settlement on accounts that are current. This means most settlement programs will require you to intentionally miss payments in order to bring your accounts delinquent. These missed payments may have lasting negative effects on your credit score.

That said, if you're already behind on multiple accounts, your credit has likely already taken a hit, in which case the impact from a settlement may be minor.

Read more: Credit Impact of Debt Settlement

Creditors may continue collection efforts

While engaging with a debt settlement company shows a good faith effort to resolve your debts as best as you're able, it won't stop collection efforts from happening. Throughout the settlement process, you may continue to receive calls and letters about your debts.

You may owe more in income taxes

Forgiven debt over a certain amount is usually viewed as taxable income by the IRS and will need to be accounted for on your income tax returns. Depending on the amount of forgiven debt, this could potentially cost you more in taxes, although the potential tax bump is unlikely to outweigh the total savings from the settlement.

Debt Management Plan vs. Debt Settlement

Regardless of which one you choose, it would be in your best benefit to work with a professional credit counselor to review your options. You may decide you don’t need their help, but most nonprofit services offer a free consultation which can help you make the right decision for your situation.