Do you need to go into debt to get out of debt?

By Emma Lunn

It might seem paradoxical that you would have to pay to get out of debt. Yet some debt management companies charge fees for the services they provide, a practice that is raising serious concerns among consumer advocates -- especially because these companies aren't doing a better job than the charities that provide debt help for free.

Too many paying too much, research says
November 2012 research by Lloyds Banking Group, the Money Advice Trust and the Centre for Research in Social Policy at Loughborough University found that half the people paying for debt management plans were not aware of the free alternatives.

Even worse, companies that charge fees don't seem to help consumers more. The research suggests that debt management plans set up by fee-charging companies were actually more likely to fail, compared with arrangements in which no fee is involved -- another hit to those who are already struggling to make ends meet. debt-help-fees

What's more concerning is what the study uncovered about how the fees are collected. One in 10 clients surveyed said they paid all of their fees upfront, a practice the researchers argue should be banned. Many consumers also didn't completely understand what they were signing up for, particularly when it came to what the fees covered and what, exactly, the company was promising.

One respondent to the survey paid £400 each month into a debt management plan, but £300 of this was kept as a fee by the debt management company instead of being put towards debt payments. There were also examples of high upfront charges -- one debtor with a fee-charging debt management service made two payments of £662 just to set up the plan.

Another issue is the danger of private debt management companies being bogus or going bankrupt before any monthly payments are passed on to creditor. In this situation, debtors would be worse off than they were to start with.

"Our research lays bare how many people in financial difficulty are completely in the dark when it comes to getting free, practical debt advice," said Graham Lindsay, group director for Responsible Business at Lloyds Banking Group, in a statement.

Where to turn for help
There are several non-profit debt counselling organisations throughout the UK that offer debt advice and debt management services for free. In fact, consumers who took advantage of these free services were clearer about repayment levels and plan length compared with those paying for debt management plans, the research found.

Debt charity StepChange is one organisation that offers debt advice and sets up debt management plans free of charge. Spokeswoman Una Farrell says it never makes sense to pay for debt advice and solutions when they are freely available from a number of charities.  

"The thing people need to remember when seeking debt advice is that debt charities see you as an individual who is struggling with debt, whereas fee-charging debt management companies see people with debt problems as a market to make money from," Farrell says.

This difference in attitude is what sets reputable debt charities apart, according to Joanna Elson, chief executive of the Money Advice Trust.

"When people do take the brave step of confronting their financial difficulties, we owe it to them to ensure they stand the best possible chance of finding a fair and sustainable way back to financial health," she said in a statement.

Looking for debt help you can trust? The Money Advice Trust has a list of debt advice agencies it works with.

See related: Brits lack redundancy safety net, CCJ: 3 letters you never want on your credit report

Published: 31 December 2012