How Does Credit Counseling Affect Your Credit Score?
Harrison Pierce is a writer and a digital nomad, specializing in personal finance with a focus on credit cards. He is a graduate of the University of North Carolina at Chapel Hill with a major in sociology and is currently traveling the world.
At a Glance
Credit counseling can have a positive effect on your credit score. It is an excellent option for those with debt and credit issues that need guidance in developing sound financial management skills and strategies. Credit counselors will closely review your financial situation and create customized plans to help you better manage your money, pay off debt, and achieve other financial goals.
The counselor will also explain how particular decisions, such as late payments or maxing out credit cards, can affect your credit score. By implementing the plan outlined by the counselor, you can improve your overall credit health and increase your credit scores over time.
What is credit counseling?
Credit counseling is a service provided by organizations that help people understand and manage their finances, particularly concerning credit and debt. This may include budgeting advice, assistance with creating a debt repayment plan, and education on credit reports and scores.
Credit counselors may also negotiate with creditors on behalf of the individual to lower interest rates or set more favorable terms for repaying debt. Credit counseling aims to help individuals regain control of their finances and avoid financial problems such as default or bankruptcy.
Does credit counseling appear on your credit report?
Credit counseling does not appear on your credit report as it is not considered an account, loan, or credit. However, if a credit counseling agency works with an individual to create a debt management plan (DMP), that plan may be reported to the credit bureaus.
A DMP is a repayment plan in which the credit counseling agency works with the individual’s creditors to lower interest rates or waive fees. The individual makes one payment to the agency each month, which is then distributed to the creditors.
Additionally, if an individual has sought credit counseling or has entered into a DMP, it may be noted on their credit report by their creditors as a “financial hardship” or “debt management,” and it can have an impact on the credit score. This is a neutral note in the credit report, and it does not harm the credit score, but it does show that the borrower has a history of financial difficulties.
How does credit counseling affect your credit score?
Credit counseling itself does not directly affect an individual’s credit score. However, the circumstances that lead someone to seek credit counseling, such as high debt or missed payments, can negatively impact their credit score.
It’s important to note that credit counseling should be seen as a tool to help individuals regain control of their finances rather than a quick fix for credit scores. Credit counseling aims to help individuals avoid serious financial problems such as default or bankruptcy and improve their overall financial health.
1. Closing accounts
Closing accounts as part of a credit counseling plan can harm your credit score. This is because one factor that is used to calculate your credit score is the length of your credit history. Closing accounts, especially older ones, can shorten your credit history, lowering your credit score.
Closing accounts can also affect your credit utilization ratio, another factor used to calculate your credit score. This ratio compares the amount of credit you use to the available amount. Another unintended consequence of closing an account is that it can lower the amount of credit you have available, increasing your credit utilization ratio and lowering your credit score.
It’s important to note that closing accounts as part of a credit counseling plan is not a must, and it depends on the specific circumstances. The credit counselor will analyze if that is the best course of action for your particular situation. If closing accounts is part of your credit counseling plan, the counselor will likely advise you to close only a few accounts rather than all of them and to keep your oldest accounts open.
It’s always important to review any plan or advice given by the credit counselor, and if you have any doubts or questions, don’t hesitate to ask for more information and details before taking action.
Making on-time payments as per the DMP can positively impact the credit score, as it will demonstrate that the borrower is taking steps to repay their debts. However, it’s important to note that participating in a DMP may also harm credit scores in the short term, as credit scores can be affected by a change in credit utilization, which can happen when an individual stops using their credit cards while on a DMP.
Is credit counseling a good idea?
Credit counseling can be a good idea for those struggling with debt and needing help managing their finances. It can be especially beneficial for individuals at risk of default or bankruptcy, helping them avoid serious financial problems and regain control of their finances. However, credit counseling is not for everyone. Some people prefer to handle their financial issues on their own.
Additionally, it’s essential to be aware that not all credit counseling agencies are created equal. Some may charge high fees or pressure individuals to sign up for services they don’t need. It’s important to research a credit counseling agency thoroughly before working with them and ensure they are reputable and accredited by a recognized organization such as the National Foundation for Credit Counseling (NFCC) or the Financial Counseling Association of America (FCAA).
Credit counseling vs. debt consolidation
Credit counseling and debt consolidation are two different strategies for managing debt. Credit counseling is a service provided by organizations that help individuals understand and manage their finances, particularly concerning credit and debt.
Debt consolidation, on the other hand, is a method of combining multiple debts into one single loan or account. The goal of debt consolidation is to simplify the repayment process and lower the overall interest rate and monthly payment.
There are several ways to consolidate debt. The most common include:
1. A debt consolidation loan: This personal loan is used to pay off other debts, such as credit card balances. The individual then makes one monthly payment to the lender rather than multiple payments to different creditors.
Learn more: Debt Consolidation Loans
2. A balance transfer credit card: This credit card allows the individual to transfer multiple credit card balances to one card, usually with a lower interest rate.
Learn more: Balance Transfer Credit Cards
3. A home equity loan: This loan uses the individual’s home as collateral. It can consolidate high-interest debt, such as credit card balances or medical bills, into a single loan with a lower interest rate.
Related: How Does a Home Equity Loan Work?
Credit counseling and debt consolidation can be effective ways to manage debt, but which is best for a particular individual depends on their financial situation and goals. Credit counseling may benefit those who need help creating a budget and managing their finances. At the same time, debt consolidation may be better for those who want to simplify their debt repayment process and lower their interest rates.
Related: What is Debt Consolidation?
Credit counseling vs. credit repair
Credit counseling is a service provided by non-profit organizations that helps individuals manage their debt and create a budget plan.
On the other hand, credit repair is a service offered by companies that claim to improve an individual’s credit score by disputing negative items on their credit report. These companies may charge a fee for their services, and the results are not guaranteed. It’s essential to be cautious of credit repair companies, as some may use illegal or unethical tactics.
Credit counseling is considered a more reputable and trustworthy option than credit repair. It’s always a good idea to research any company or organization before working with them and to be skeptical of any promises to “fix” your credit score quickly or easily.
When you go through credit counseling, you can expect the following:
- A review of your financial situation: The counselor will look at your income, expenses, and debts to get a complete picture of your financial situation. They’ll also ask about your goals and what you hope to achieve through credit counseling.
- A budget plan: The counselor will help you create a budget that considers your income, expenses, and debt payments. This will help you see where your money is going and identify areas where you can cut back to free up money toward paying off debt.
- A debt repayment plan: The counselor will work with you to devise a plan to pay off your debt. This might include prioritizing certain debts to pay off first, negotiating with creditors for lower interest rates or monthly payments, or consolidating your debt through a debt management plan.
- Ongoing support: Credit counselors support you throughout paying off your debt. They’ll be available to answer questions and provide guidance as you work to improve your financial situation.
- A personalized plan: Credit counseling agencies will offer a personalized plan based on your individual needs, financial situation, and goals.
It’s essential to keep in mind that credit counseling is a process and not an instant solution. You have to be committed and stick with the plan to see the benefits of credit counseling.
Here are a few things to look for when determining if a credit counseling agency is legitimate:
- Non-profit status: Legitimate credit counseling agencies are often non-profit organizations. This means they are not in business to make a profit and are more focused on helping people get out of debt.
- Accreditation: Look for certification by organizations such as the National Foundation for Credit Counseling (NFCC) or the Financial Counseling Association of America (FCAA). These organizations have strict standards that credit counseling agencies must meet to be accredited.
- Free initial consultation: Legitimate credit counseling agencies will offer a free consultation to review your financial situation and discuss your options.
- Clear and transparent fees: Legitimate credit counseling agencies will be clear about their fees and will not charge hidden fees.
- Provide education and budgeting tools: A legitimate credit counseling agency will provide educational resources and tools to help you understand your financial situation and make better financial decisions.
- Check online reviews: You can also look online for reviews of credit counseling agencies. Be aware that some companies may have fake reviews, so read various reviews from different sources.
It’s important to do your research and be cautious before working with any company or organization that claims to be able to fix your credit score quickly or easily. Remember that there is no instant solution; it takes time and effort to improve your credit score.
Credit counseling itself does not appear on your credit report. However, if you enroll in a debt management plan (DMP) through a credit counseling agency, that plan may be reported to the credit bureaus. A DMP is a repayment plan where you make one monthly payment to the credit counseling agency, and they disburse the funds to your creditors.
A DMP will generally stay on your credit report for around seven years from the last payment date. However, it’s important to keep in mind that while a DMP may hurt your credit score in the short term, it can be an excellent way to get your debt under control and improve your credit score in the long term
Keep in mind that it’s always a good idea to check your credit report regularly to ensure that all the information is accurate and up to date. If you find any errors, you can dispute them with the credit bureau.