Credit scores are a reflection of your spending habits and how reliable you are when it comes to paying your bills on time consistently. Because credit affects so many aspects of our lives, understanding how credit works is essential to maintaining a healthy credit rating. If you have fallen behind on paying your bills, or have several charge-offs listed on your credit report, you may be considering debt settlement as a solution to your credit problems. While it's true that debt settlement can help you to pay off debts, your credit score may be negatively impacted, depending upon how it's listed on your report.
Features
Debt settlement is the process by which you pay less than the amount owed to your creditors, and they agree to accept this amount as fulfillment of the debt. Debt settlement can be negotiated at any point during the process, but it's most common when you are several months past due and/or have charge-offs that you must repay. Many people turn to debt settlement when attempting to qualify for certain loans that require all outstanding debts to be paid.
Types
You can negotiate debt settlement with your lender directly, or through the use of a debt settlement company. If you decide to negotiate the debt directly, be prepared to document your requests in writing, as a verbal agreement will not be binding should the lender later decide to pursue the entire amount that you owe. For debt settlement companies, be certain to choose a reputable establishment, ideally one that is registered through the Better Business Bureau. Be certain that you understand any fees that you will have to pay as a result of the service, and incorporate these into your budget.
Warning
In the short term, debt settlement will almost certainly cause your FICO score to drop. This is because repaying a debt for less than the full amount owed will always have a negative impact on your credit scores. Additionally, if you are paying down an old debt or charge-off, the new activity on the account will make the settled debt have more weight when calculating your credit scores. However, if you are in a situation where debt settlement is a viable option, chances are good that your credit is already in trouble due to missed payments and charge-offs.
Other Considerations
Debt settlement may be a viable option in some instances where you can negotiate the terminology that will be placed on your credit report. If possible, get the creditor to agree to "paid" versus "settled" or "settled for less than full amount," as any terminology that indicates that you paid less than what was owed will damage your credit scores. Not all creditors will be willing to work with you on terminology, so you should get any agreements in writing before you pay.
Another option is called "pay for deletion." This works the same as a debt settlement, only the creditor agrees to remove the account from your credit report entirely. This can be helpful, if you can find a creditor that will agree to it.
Effects
Debt settlement may be required before you can qualify for certain types of loans, such as a mortgage. However, you should be aware that any debt settlement will negatively impact your credit rating if it is listed on your report. If you have debts that are close to the credit reporting limit, it may be better for your credit to let the debt age off of your credit report before you pay.
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