Playing hardball in a debt dispute has credit consequences
Withhold payment and your score may plummet
Speaking of Credit
Dear Speaking of Credit,
My credit is 740, but I owe $8,700 on one of my several cards, and the card can't be used now. I don't want to pay them, as I gave them my bank information over the phone and my bank claimed there were nonsufficient funds. But I had the funds. Then when I put more in the account the credit card company didn't accept the funds with each side blaming each other.
Anyway, what's the difference in my credit rating if I settle for a lesser amount due or just don't pay anything? And either way, since I pay cash and own all my assets, what other, if any, credit ramifications can there be? Will it affect any of my other five credit cards, my insurance, etc.? I was told by another expert I shouldn't. What say you? -- Dave
I hope this account hasn't gone unpaid for so long that it's too late to be revived by simply catching up on the payments and restoring it to a "current" status. Most likely, though, it appears that window of opportunity has closed.
By now, your $8,700 past-due balance has probably been written off as a loss and the account reported to the credit bureaus as a charge-off. There, it will continue to appear on your credit reports for seven years following the initial charge-off date. And that 740 score? It has probably dipped to somewhere in the low 600s. How long your score stays down will largely depend on what you do -- or don't do -- next.
Paying in full versus settling debt
You raised the question of settling for a lesser amount. Clearly, this is one of the best of the few options you have for resolving this debt, as it would enable you to get out from under this burden by paying less than what you currently owe. However, this solution is not without its downsides, such as:
- Like a charge-off, a settled account will remain on your credit record for seven years.
- An account reported as "settled for less than the full amount due" will not improve your score, as it carries about the same negative impact as a charge-off or other derogatory item.
- If over $600, the portion of the balance forgiven through a settlement will be reported to the IRS as taxable income.
Regardless of whether you are able to settle or you decide to pay in full, what will now matter most for your credit well-being is how quickly you act to prevent the next phase in this timeline: collections.
If the debt goes to collections
When a creditor can't resolve a debt through its own means, the typical next step is to send it off to a third-party collection agency. In addition to aggressively calling and writing you for payment, the agency will place a collection account on your credit reports that, in addition to the earlier charge-off, will remain for 7.5 years from the date the card first became delinquent.
The negative effect of a collection is similar to that of a charged-off and settled account in terms of harm to your credit score. Fortunately, adding a second derogatory item to your credit report shortly after the first will not cause your score drop as drastically as upon the initial hit. Still, you should expect to see some additional score loss with the addition of a collection.
What happens if you don't pay the collection agency? It gets worse.
If you are sued over the debt
When a collection agency has been unsuccessful at getting you to pay, they may decide to file a lawsuit, which can lead to a third derogatory item for this debt on your credit report -- a judgment.
In the eyes of your credit score, a judgment is similar to the other two negative marks we've discussed -- charge-off and collection -- both in terms of how severe your score is impacted and the seven years (from the filing date) it will stay on your credit report. And since the filing of the judgment can often occur a year or more after the charge-off and collection have been recorded, a judgment could continue to negatively impact your score long after the other two items have fallen off your credit report.
Additionally, in some instances an unpaid judgment can lead to wage garnishment or a lien on your property, and prevent you from obtaining a new mortgage for as long as it, or any other unpaid bad debt, remains on your credit report.
Impact on other cards, insurance
Since you asked, yes, anytime your score takes a serious drop, your other card issuers are likely to notice through their account review processes. This could lead to reduced credit limits on cards you keep in good standing.
Auto and fire insurance premiums can also be affected by bad credit, since many insurance companies use credit-based insurance scores to help set premium costs.
The solution should be clear
I hope you still have those funds on hand, since, whether by debt settlement or payment in full, your best course of action will be to resolve this debt now.
Meet CreditCards.com's reader Q&A expertsDoes a personal finance problem have you worried? Monday through Saturday, CreditCards.com's Q&A experts answer questions from readers. Ask a question, or click on any expert to see their previous answers.
Published: January 28, 2016
- Credit pulls hurt score, but only once – Scoring formula consolidates multiple checks into one ...
- Your 6-months-with-no-payment credit score comeback plan – Restoring your credit won't be quick or easy, but it can be done ...
- 7 steps: Clean up your credit by spring – Whether the future holds a new mortgage, car or just smaller debt burdens, these steps will build your credit and make it possible ...