Credit scores after debt settlement
The Internet is filled with a tremendous amount of misinformation when it comes to credit and debt. And one of the biggest misconceptions of all has to do with credit scores and charge offs. It's a common question... "If I pay or settle my collections or charge offs, will my credit score go up?"
The common answer is no...
When a consumer first hears their credit score won't go up after paying or settling a collection or charge off, the reaction is generally one of disbelief. And the typical follow up response is... "If my credit score won't go up, why pay?"
It doesn't make sense, does it?
Well, the reason it doesn't make sense is because it's really a two-part question, and it generally isn't followed up with the explanation of the true and ultimate concern of the person asking the question - "How long till I acquire new credit again?"
And the answer to that question is fairly simple and straightforward.
Most creditors, and pretty much all A lenders won't lend to you until ALL of your delinquencies are resolved...
Outside of bankruptcy, resolution on a collection or charge-off can be achieved by completely paying off or settling the account.
If you have read or heard somewhere that you will extend the 7-year credit reporting period by paying off or settling a collection or charge-off, you have been misinformed.
Please see this opinion letter that is provided by the FTC for clarification. Specifically, question 2.
Generally, within 2 years of resolving all of your delinquencies (including resolution via Chapter 7 bankruptcy), you will begin to acquire new, unsecured credit again. Some of my clients have reported their experiences ranged from 6-18 months after completing my service. But assume two years, to be safe.
Rebuilding your credit will be similar to how it was when you originally started acquiring credit when you were 18.
You'll want to start off with a Capital One Visa or Mastercard and department store cards, typically with $300-$500 credit limits.
You could also possibly accelerate your rehabilitation by obtaining a few secured credit cards that report to your credit report...
Then, the key to rebuilding your credit score and acquiring desirable financing in the future, is to maintain at least 4 active trade lines. It's imperative to have at least 4 accounts reporting active payment history to your credit report.
When you first open these new accounts, make a small charge on them and just pay the minimum payments for the first 24 months.
By just paying the minimum payments for the first 24 months, you will ensure that these new accounts will be reporting current, active payment history to your credit report.
This is generally when your credit score will begin to noticeably increase. This is also when your credit limits may increase a little bit as well.
After the accounts are older than 24 months, try your best to pay the entire balance off each month.
Will my credit score increase due to other reasons as well?
It generally will. Your credit score is determined by a variety of factors, but the one that is relevant to paying or settling collections and charge offs is your outstanding balances.
FICO generates 30% of your credit score by accessing your outstanding balances.
When you payoff or settle collections and charge offs, you eliminate the balances, thus impacting your score in that manner as well.
What about buying a home in the future?
Once all of your delinquent accounts have been satisfied for 2 years, you will generally qualify (credit-wise) for a conventional mortgage, providing that you don't have any lates on your mortgage history.
And if you wanted to buy or refinance via FHA, you should generally qualify (credit-wise) after 12 months. Assuming again that you don't have any mortgage lates.
If you choose to resolve your debts by way of Chapter 7 bankruptcy, you will generally qualify (credit-wise) for an FHA loan after 2 years of discharge. Chapter 7 bankruptcies generally discharge around 90 days after filing. However, you must establish some credit history in those two years without any delinquency.
Also, if your bankruptcy resulted from conditions outside of your control, such as the death of your spouse, serious illness or natural catastrophe, you may be able to qualify 12 months after your discharge date.
You may want to read my article about credit after bankruptcy for additional information.
If you're wondering how best to prepare for communicating with debt collectors, see my article on how to talk to debt collectors.
For more useful information about settling your debts, please refer to my 4-part series about how debt settlement works.
I hope this article helps you understand the common misconception of credit scores when paying or settling collection accounts and charge offs. Please feel free to contact me with any questions.