Friday, August 21, 2009

The Effects on Credit by Settling an Account

Debt settlement is excellent for eliminating excessive debt. The strategy is recommended by the Federal Trade Commission as an alternative to bankruptcy, and often results in a significant discount off the full balance due. The disadvantage is that debt settlement is guaranteed to hurt credit scores, although it is not as bad for credit overall as bankruptcy.

Charge-Offs

    Damage to credit scores with debt settlement starts before accounts are settled. Creditors consider settlement offers only on delinquent accounts, and sometimes the most attractive settlement offers are available for accounts that are about six months past due and scheduled for charge-off. Charge-off is an internal accounting term used by creditors when closing an account for lack of payment. It does not end the account holder's responsibility for paying the debt. Debt settlement offers range from 20 to 70 percent off the balance due, according to SmartMoney.

Skipping Payments

    Not everyone choosing debt settlement is behind on payments. This means some people must intentionally stop making payments to qualify. This damages credit scores each month a payment is missed. All credit situations are different, and no one can precisely predict how missing payments will affect a person's credit score. However, someone with good credit scores possibly could lose 50 to 100 points or more while missing payments to qualify for settlement.

Credit Updates

    The actual settlement hurts as well, with credit reports updated to show that the account was "settled for less than the full balance," according to Black Enterprise magazine. One settlement on credit reports is bad, and multiple settlements are worse. Someone with fresh settlements on their credit reports may find it impossible, at least for a while, to qualify for new credit at standard interest rates. Creditors will see the settlements and immediately know that the person is suffering from serious credit issues.

Credit Repair

    Repairing credit after debt settlement takes time. Late payment and settlement information remains on credit reports for seven years. This could hold down credit scores for two or three years while credit is rehabilitated through on-time payments on existing accounts while keeping any remaining balances low. Some people recovering from debt settlement decide to live without unsecured credit, such as credit cards. This helps keep them out of debt, but may make it difficult to build a high credit score, as the credit scoring system rewards people who have a variety of well-paid accounts on their credit report.

Secured Credit

    Some people add secured credit accounts after debt settlement. Secured accounts require deposits into bank savings accounts that are held as collateral. Credit lines on secured credit cards equal the amount on deposit. Secured installment loans also are available. Approval on secured credit is usually easy because of the collateral.

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