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What is a debt management plan and how does it work?

There are lots of different solutions to dealing with your debt. As well as a debt consolidation loan or remortgage, you can also consider a Debt Management Plan (DMP). This type of arrangement can help you to reduce your monthly repayments to your creditors in order that you can get back on your feet.

So, what is a debt management plan? How does it work? And what are the pros and cons? We answer these questions.

What is a Debt Management Plan?

A Debt Management Plan (DMP) is an informal agreement with your various creditors. If you are struggling to pay all your debts every month, it allows you to reduce the amount that you pay to some or all of your creditors in order that your payments fit within the budget that you have available.

A Debt Management Plan allows you to tackle your debts without the need for taking out another loan or borrowing any more money. However, it can take several years to repay a debt management plan, it can affect your credit rating and it is not legally binding. Keep reading to learn more.

How does a Debt Management Plan work?

Informal Debt Management Plans are suitable for debts of any size and are offered by a range of different companies (often called Debt Management Plan ‘providers’).

When you approach a Debt Management Plan provider they will discuss the suitability of this option with you based on your personal circumstances. They will determine whether a DMP is the best option for you.

When you arrange a Debt Management Plan, you will have to establish how much you can pay to your creditors every month. This is done in conjunction with the DMP provider who takes your total monthly household income and deducts all reasonable living expenses. What is left is called your ‘disposable income’ and this is the amount you pay to your creditor every month.

You normally make one payment to a Debt Management Plan and they your payment is distributed between your creditors on your behalf. This solution does need your creditors to agree to receive lower payments.

Advantages of a Debt Management Plan

There are several advantages of a DMP. For example, a Debt Management Plan is useful if you need a temporary solution. For example, you may need to reduce your payments to your creditors until your job changes or until you go back to work.

In addition, a Debt Management Plan helps you reduce your outgoings to a single, affordable payment. You don’t have to take out any more loans and it helps you avoid court action for non-payment of your debts.

Disadvantages of a Debt Management Plan

One major disadvantage of a Debt Management Plan is that it can run for a long period. This means that it may be several years before you are fully out of debt. In addition, DMPs are not legally binding. A creditor could therefore refuse a DMP or back out of an agreement at any time, although this is rare.

In addition, secured debts (such as mortgages and car finance) and Crown debts (such as Council Tax) cannot be included in an informal DMP.

You will also find that most companies who provide debt management services will make a charge. You will often pay a fee equivalent to your first two payments and DMP providers typically also charge an ongoing monthly management fee of between 10-15 per cent.

When choosing a company to provide Debt Management Plan services, the Government advises you to:

  • Make sure the provider discusses all the options available to you, not just a Debt Management Plan
  • Make sure the provider is licensed by the Office of Fair Trading

  • Obtain a clear cost of how much it will cost to arrange the plan

  • Shop around with other providers to make sure you are getting a good deal

  • Understand what happens if the plan stop because you have missed payments

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