Debt Settlement Effect on Credit

A debt settlement is an agreement in which a debtor and a creditor establish new terms for the repayment of an unpaid debt. Your credit score will be affected when you agree to a debt settlement, and it may affect your ability to obtain new forms of credit.

Settlement

When you negotiate a debt settlement, you and your creditor come to an agreement regarding how you will repay the debt. For example, your lender might agree to accept a $5,000 lump-sum payment to settle a $7,000 credit card debt. The creditor has agreed to accept less money than you actually owe, typically because the creditor concludes you cannot pay the entire balance and wants to get as much money as possible. Other creditors will be able to view this agreement on your credit report and may be less likely to offer you credit or favorable terms as a result.

Impact

Your credit score is based on your history as a credit user. It is based on factors such as whether you pay debts on time, how much debt you have and the length of your credit history. When you settle a debt for a lesser amount, the settlement gets recorded on your credit report. A settlement shows that you could not make your payments and had to terminate the account, both of which lower your score.

Scores

While the precise impact any debt settlement has on your credit score varies depending on the lender, the company calculating the score and other factors on your report, a debt settlement is a significant negative item and can lower your score substantially. Yahoo finance reports that a debt settlement lowers your score by 45 to 125 points. The impact is greater for those with a higher score than for those with lower scores.

Warnings

If you are considering debt settlement, you should evaluate your options before committing to a plan. Also, you should be wary of companies or people offering debt settlement services. These companies sometimes charge you for services you can perform yourself, and they can leave you in a worse financial shape than you were before. You can negotiate your own debt settlement. If you choose to use a settlement service, you should research the company carefully before entering into any agreement. You may want to consult the Better Business Bureau.