Too Much Debt? Too Bad

By Jessica Silver-Greenberg and Robert Berner

A major avenue of escape for troubled credit-card borrowers is narrowing. Consumers with onerous debt traditionally have found relief among credit counseling agencies, middlemen who negotiate with lenders to lower interest rates and consolidate balances into a low monthly payment. But banks aren't as willing to cut deals now. "More consumers will end up in bankruptcy," says Travis B. Plunkett, legislative director at the advocacy group Consumer Federation of America.

Nonprofit credit counselors have been around almost since the dawn of the credit-card business more than 50 years ago. Their approach hasn't changed much in that time. Typically, a counselor sets up a so-called debt-management plan that allows a client to pay off a balance over five years. The individual makes a single monthly payment to the group, which in turn sends the money to the various lenders.

Until recently issuers often agreed to ratchet down interest rates permanently, to as low as 0%, for those working with credit counselors. That has been a critical concession, says the industry, since it makes monthly payments more affordable and helps ensure the principal is getting paid down. But now some credit-card companies are balking. Discover Financial Services, (DFS) counselors contend, won't cut rates below 17.9% for clients, while Capital One Financial (COF) is holding firm at 15.9%. At least 5 of the 13 largest issuers are offering smaller breaks on rates than they did five years ago, according to a study by the Consumer Federation of America. Discover won't disclose rate details, saying it makes decisions on a case-by-case basis: "We have a range of rates that we temporarily offer card members depending on their situation," says spokesman Matthew Towson. Capital One didn't return calls for comment.

Some companies are still willing to deal. JPMorgan Chase (JPM) announced a year ago it would cut rates to 0% for consumers who agree to a formal debt-management plan. Bank of America will drop to the low single-digit level or even to 0% in some instances.

Meanwhile, counselors are fretting that they aren't getting paid for their services as they did in the past. The credit counseling agencies historically have collected 15% of the total debt that's paid off. Today banks are forking over less than 8%, notes the National Foundation for Credit Counseling, the umbrella group for 1,500 counselors. That money goes to fund operations, so counselors worry they may have to skimp on services given the cutbacks. "If funding doesn't improve, we will be in serious trouble," says Winchell Dillenbeck, executive director of Consumer Credit Counseling Services of the North Coast in Arcata, Calif.

Why are credit-card companies clamping down? Some analysts suspect issuers are increasingly worried about losses. Card issuers reported $38 billion in bad loans last year. Columbia Law School professor Ronald Mann gives another reason. He says banks have taken a closer look at the data and determined that most individuals will keep paying their debts even if lenders don't lower the rates as they have in the past. "Higher rates maximize the recovery," says Mann.

The counselors see the world differently. In the current credit crunch, more borrowers are turning to their programs. The NFCC worked with 2.7 million individuals last year, a nearly 30% jump from 2006. Without the usual rate breaks, counselors think more people will fall behind on their payments. That could lead to an uptick in bankruptcies. A study by Visa Inc. (V) found that 50% of consumers who dropped out of credit counseling programs declared bankruptcy. Says Dillenbeck: "If we don't have good concessions, we have little power to help people."

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