The Need for Debt Management

Debt management is a key aspect of financial planning.

The need for debt management is underscored by its avoidance of out-of-control costs and prudent addressing of existing debt concerns. Debt management plans that use credit-counseling services often lead to negotiation of lower interest rates and debt repayment schedules. The need for debt management is premised on advantages of financial health such as improved budget allocations, peace of mind and enhanced financial planning.

Measurement

Debt levels are measured using the debt-to-income ratio and debt ratio. The debt-to-income ratio is used in debt management by dividing total debt by total income. Similarly, the debt ratio measures debt by dividing debt by asset value. For example, if an individual has $100,000 in debt and owns $45,000 worth of assets, the debt ratio is 2.22. Smaller debt-to-income ratios and debt ratios indicate stronger debt management and lower risk to lenders.

Techniques

Debt management techniques help address the need for debt management by identifying and tackling financial issues caused by debt. For example, Consumer Credit Counseling Services offers a free online financial health quiz, household budget calculator and debt-to-income calculator to help debtors determine their debt situation. Once a debt profile has been determined using tools like these, a debt management program can be implemented.

Budget

Budgets with low debt allow for greater investment potential.

Financial planning with strong debt management often requires a good budget. If a budget does not provide for good asset allocations, this may indicate a need for debt management. For example, if too much monthly income is being used to pay off debt, that debt may be restructured for a lower cost. Budgets that incorporate debt management improve the probability of higher savings that can in turn be invested for more potential income.

Credit

Revolving credit is also a form of debt, and failure to pay this type of debt and other debt can negatively affect your credit score. When this happens, the need for debt management increases because the consequences of falling further behind on debt can cause further damage to a credit report. Sound debt management can help improve credit score by paying down credit debt, increasing credit limits and making use of credit opportunities such as lower rate credit incentives.

Bankruptcy

Bankruptcy involves thorough documentation of debt.

In the case of Chapter 7 and Chapter 13 bankruptcies, the need for debt management is legally required. According to the U.S. Federal Trade Commission, pre-bankruptcy credit counseling and debtor education are obligatory in bankruptcy proceedings. Bankruptcy itself is a form of debt management most often used as a last resort, or when all other attempts to manage debt do not render a debtor able to adequately pay off arrears.

References

• Federal Trade Commission: Knee Deep in Debt
• American Consumer Credit Counseling, Inc.: Debt Management Program Review
• U.S. Census Bureau: The 2010 Statistical Abstract
• Consumer Credit Counseling Services: Debt Management Tools and Calculators
• U.S. Department of Justice: FTC Facts For Consumers

Resources

• The Federal Reserve Board: Household Debt Service and Financial Obligations Ratios
• Federal Trade Commission: For People on Debt Management Plans: A Must Do List
• U.S. Trustee Program: Credit Counseling Agencies Approved Pursuant to 11 U.S.C. § 111
• The Federal Citizen Information Center: Credit -- Out of Control Debt
• American Association of Debt Management Organizations: Consumer Information