Debt settlement arrangements are often the final stage of getting your financial debts handled before bankruptcy. If lenders believe that you are close to bankruptcy or that they will not otherwise continue to receive any payments from you on the debt, they may be willing to take a lump sum of cash in order to settle the debt and write the off the rest of the debt. Before entering into an arrangement, you need to know how it will affect your credit rating.
Basics of Debt Settlement Plans
Every debt settlement plan is different and lenders do not have to enter in to one. They can choose to follow the contract you signed when you took out the debt and this can include seizing assets connected to the loan, such as cars or your house. Lenders often more easily agree to debt settlement plans when they have no other means to obtain a payment from you, such as credit card debt and unsecured loans. An agreement would start with a proposal from you or your representative to give the lender a sum of money in exchange for releasing the debt. For example, if you owe $17,000 in credit card debt, you might offer the company $12,000 as a final payment. The lender knows that this is better than receiving nothing and may agree to it. Settlement plans require that you have the financial resources to pay out these debts, as no lender will agree to a plan where you continue to make payments.
How Will It Show on Your Credit Report?
Once you agree to a debt settlement plan and finalize it, the lender will report to all three major credit bureaus either that the debt has been "settled" or "settled for less than the full amount." The former delinquent payments will still show on your report for seven years, but no further delinquencies for these payments will show on your report. The debt will show as closed. Check your credit report two months after a debt settlement payment to ensure that the lender has reported this arrangement properly.
Impact on Your Credit Score
If you are at the point where you are contemplating a debt settlement arrangement, it is likely that your credit score has already declined. A settlement showing on your report will not immediately make your score better, as the former delinquent payments will remain on the report. This will result in a short-term decline in your score as the settlement was not a full payment and an inactivated credit item shows on your report. Your score should begin to recover quickly, however, as you will not show further delinquencies on the account.
Benefits of Debt Settlement
If you have enough financial resources to make settlement arrangements with your creditors, it can help you avoid bankruptcy and result in a stronger credit score. You will also have more discretionary income in the future that you can use to pay down other debt. You also have the psychological benefit of having one less debt to juggle, and one less reason to avoid answering the telephone and the door.
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