No free ride for getting out of debt
Why you should pass on consolidators who promise pain-free debt relief.
NEW YORK (CNNMoney.com) -- Credit card debt has soared 80 percent in the past 10 years - to $745 billion dollars at the end of 2006, according to CardWeb.com.
Many consumers are in over their heads, looking for a way out. But before you click on that Internet ad promising "painless debt relief," think twice and decide whether consolidation is the right move.
The surge has spawned a little-regulated industry of agencies making big claims. For a "nominal fee," they say they'll effortlessly erase your debt, clear your history and raise your rating.
Some agencies have actually gotten consumers even deeper into the red with excessive fees and deceptive fine print.
One of the first signs that you may be dealing with a less-than-scrupulous company is the claim that getting out of debt will be easy.
"Anyone who's saying there's a painless way out of being in credit trouble should raise eyebrows," said Nick Jacobs, a spokesman for the National Foundation for Credit Counseling, which regulates debt relief counseling groups.
He said that debt consolidation agencies often promise an immediate increase in credit score, relief in a short time period, or zero interest rates, none of which are realistic.
"Getting out of debt is going to be a tough process, but it's also incredibly worthwhile. Anyone who promises overnight results is selling snake oil," he said.
Some companies claim that they can cleanse your credit history, which is also a falsehood, said Howard Dvorkin, founder of Consolidated Credit Counseling Services.
"Nobody can erase your past credit history," he said. "The most they can do is work with you to improve it over time.
Seeing through the claims
You're never going to get out of debt if you're not dealing with a good debt consolidation company, so the investigation process is crucial, said David Jones, president of the Association of Independent Consumer Credit Counseling Agencies.
For many years, debt relief groups were structured as non-profits and organized as a social service. But a number of businesses that bill themselves as public service providers have sprung up around a growing industry.
Consumer need to get as much background on a company as they can, according to Dvorkin. Your state's Better Business Bureau (BBB) is a good place to start digging.
"The company should certainly be a member of the BBB," he said. "They may have a lot of complaints, but as long as they're resolved, it's not a major concern. It's the companies with a lot of unresolved complaints that you should worry about."
"There was a time when non-profit was the single most crucial distinction, but not anymore," he said. "Now, you're either abiding by state law or you're not."
The IRS has recently cracked down on companies who call themselves non-profits, but charge outlandish fees to consumers.
The crackdown appears to be working. The Better Business Bureau said complaints about consolidation agencies have declined 25 percent since 2002 - to around 1,700 in 2006.
You should also do the simple math after reading the company's terms, according to Dvorkin. You're still going to have the same amount of debt, but odds are you'll be paying it more slowly. Any outlandish reductions in monthly payments without a corresponding increase in the loan's horizon should raise flags.
You should also save 3 to 5 times what the company is charging you for its service, said Dvorkin. So if you're paying $30 a month in fees, you should expect to be saving around $100 to $150 a month. Anything less and the consolidation service is hardly worth it.
Consumers should also make sure that all of their payments are going towards those you owe, he said. The more predatory agencies actually pocket your first monthly payment rather than sending it to your creditors. Read the fine print.
Alternatives to consolidation
Those seeking debt relief should understand that there are other - often wiser - options out there.
"It's generally not a good idea to replace one debt with another," said Jones.
"Debt consolidation gives the illusion that you've done something positive, because it frees up disposable income. But that can quickly evaporate and you're right back to where you started," he said.
There are many non-profit credit counseling agencies that will work with you to establish a plan to get out of debt.
They will even provide free counseling if it's determined that you can't afford to pay.
"A good counselor will work closely with the person to help them understand their situation and establish a budget so they can get back in the good graces of their creditors," said Jones.
His industry trade association, the AICCCA, offers strict accreditation standards for agencies who want to join, including a $50 cap on monthly maintenance fees.
To find a counselor near you, use the AICCCA's Find a Counseling Agency page.
Most of all, people need to recognize the signs of credit trouble so they can seek help as soon as possible, he said.