How does a debt management plan affect applying for loans?

If you find yourself heavily in debt, you might turn to a debt management plan (DMP). These programs can help you get out of debt, but they are not free of risk. One implication being your ability to apply for new products such as a mortgage or auto loan while paying down your debt.

Will a debt management plan affect your ability to get loans?

A debt management plan will likely be recorded on your credit report and can affect future applications for credit.

Before entering a debt management plan it’s important to understand the ramifications. For instance, a debt management plan can impact your ability to get new loans. This is especially true if some of your lenders charge off a portion of your debt and report that information to the credit bureaus. Some lenders will also add a note to your credit report that you’re in a DMP, though this note won’t have a direct effect on your credit score.

When a lender looks at your credit report, it will first see your credit score, then examine the details of your credit accounts. If you have poor credit and only entered a DMP recently, many lenders will hesitate to give you a loan. Even if you do qualify, you may be offered bad credit loan rates.

How does a debt management plan affect your credit?

When you establish a debt management plan, you often adjust the terms of your loans, changing their interest rates or repayment timeline. DMPs may also involve restricting future use of credit cards.

Many creditors report debt management plan details to credit bureaus. If you settle for less than you owe, they may also report the balance you’re not paying to the credit bureaus. Even lowering the rate of a loan may result in a portion of the debt being reported as charged-off. This has a negative impact on your credit score.

Over time, your credit score can improve as you rebuild your payment history, but there is likely going to be an initial negative impact on your credit rating. It will also be listed on your credit reports for six years, which can affect your ability to qualify beyond your credit score.

It’s important to note there’s a big benefit to being proactive with debt. If you realize you’re in over your head and set up a DMP before you start missing payments, you might be able to dodge much of the negative impact on your credit.

Alternatives to a debt management plan

If you’re considering a debt management plan, there may be other routes you can take that will have less of an impact on your borrowing ability and credit score. Before reaching out to a counselor for loan review or signing on to a DMP, review all of your options carefully.

Talk to your creditors

If you’re struggling with debt, you aren’t obligated to speak to your lenders through a debt management company. You can reach out to your lenders directly to discuss your situation.

Simply reaching out and explaining your situation may be enough to convince a lender to waive a fee or accept a late payment.

Debt consolidation

Consolidating your debts means taking on a new loan to replace your existing one, turning multiple debts into a single one that is hopefully easier to manage.

This can lower your monthly payment and even lower the interest rate of your debt, saving you money in the long run.

Debt settlement

If you’re in significant debt, you might be able to convince your lenders to settle your debt for less than the full amount that you owe. For example, if you owe $5,000, you could offer to settle your loan for $3,000 and have the lender charge the rest off.

Some debt relief companies specialize in negotiating these deals on borrowers’ behalf, but these services cost money. The drawback of this plan is that it can have a significant negative impact on your credit, although it may help you recover in the long term.

Bankruptcy

If your situation is truly dire, you can declare bankruptcy. This is a legal process that lets you restructure your debt or eliminate it entirely. However, it can take time to go through the process and it will cause a massive drop in your credit score that can last for up to a decade.

The bottom line

Debt management plans are one tool that borrowers can use to get out of debt. However, you should be ready to follow through on the plan and commit to the years it will take to get out of debt. Before signing on for this type of long-term commitment, be sure to review all your options in order to find the best possible path for your needs.

And remember, if you do opt for a debt management plan, it can impact your credit, so you may have to put getting new loans on hold while you get started with the plan. But over time, a DMP should help you improve your credit and start qualifying for better loans.