Welcome to the “2-Minute Money Manager,” a short video feature answering money questions submitted by readers and viewers.
Today’s question is about credit scores; specifically, whether paying off an old debt will improve your score.
Watch the following video, and you’ll pick up some valuable info. Or, if you prefer, scroll down to read the full transcript and find out what I said.
You also can learn how to send in a question of your own below.
For more information, check out “7 Quick Ways to Raise Your Credit Score” and “Ask Stacy — Will Paying Old Unpaid Debts Improve My Credit Score?” You can also go to the search at the top of this page, put in the words “credit score” or “fixing credit” and find plenty of information on just about everything relating to these topics.
Got a question of your own to ask? Scroll down past the transcript.
Don’t want to watch? Here’s what I said in the video
Hello, and welcome to your “2-Minute Money Manager.” I’m your host, Stacy Johnson, and this answer is brought to you by Money Talks News, serving up the best in personal finance news and advice since 1991.
Today’s question comes from Cindy:
“I have a loan from a long time ago that I co-signed for a family member for a car. He defaulted on the loan, the car got confiscated, and they charged off the loan. Now, I’m thinking of paying it off. My mortgage loan lady said that since it’s ‘charged off’ that they may take a much smaller lump sum to pay it off. I don’t really know what to even say to approach the loan officer with an offer like this.”
OK, Cindy, let’s discuss.
Let’s start by defining “charged-off” debts. They’re simply debts you didn’t pay, so the lender has taken the loss and written off the debt as uncollectible. The fact that it’s charged off doesn’t mean it’s forgiven, however. You still owe the money.
Here’s the law: Any negative marks on your credit history, including charge-offs, must be removed from your credit history after seven years. So, if Cindy’s charged-off debt is more than 7 years old, it shouldn’t show up on her credit history or affect her credit score.
If it’s within the seven-year window, should she pay it? You’d think so. After all, if unpaid bills devastate your credit score — and they do — logic would suggest that paying them off would improve your credit score.
Unfortunately, all is not logical when it comes to credit scores.
According to the creator of the most widely used credit score, the FICO score, paying accounts in collections won’t help. Here’s what myFICO.com says:
“As far as your FICO score is concerned, two things are considered: Has a collections appeared on your credit report, and when it was reported. So whether or not you pay your collections off is really a personal decision.”
What FICO is saying here is that paying off a debt in collections won’t improve your score.
It may, however, influence a lender that looks beyond your score to its source, which is your credit history. If you were a lender, which would you rather see in a borrower’s credit history — an account they paid years late, or one they blew off and never paid at all?
Then there’s your personal morality score, otherwise known as a conscience. When you borrowed money, you gave your word to pay it back. So, if you have the money, and barring a legitimate dispute, that’s what you should do. Or, at least, that’s the way I was raised.
Now that we’ve gotten that out of the way, let’s look at a couple of additional ideas for Cindy.
You could try disputing it
The Fair Credit Reporting Act allows you to dispute anything on your credit history. Once you file a dispute, the credit-reporting agency (CRA) — the “big three” are Equifax, Experian and TransUnion — typically has 30 days to investigate the item, which it does by going back to the collection agency or lender that put it on your report. If that agency or lender doesn’t respond, the CRA can’t determine the item is accurate, so it has to remove it from your record. That CRA then is required to notify the other CRAs so it gets removed from the reports those agencies maintain on your account.
You’re obviously not supposed to dispute items you know to be accurate, and I’m not advising you do so. But I can tell you, it’s been done. It’s kind of like pleading innocent to a traffic ticket, then hoping the cop doesn’t show up for court: automatic dismissal.
If the item causing problems for Cindy is accurate, it will most likely be verified, so this is a long shot. But it doesn’t cost anything if you want to try — although again, I’m not advising you to do so.
Learn how to dispute items with Experian here, Equifax here and TransUnion here. While all of these companies may try to get you to buy your credit history before filing a dispute, don’t bite. Get it free at AnnualCreditReport.com.
If you’re going to pay it, try to get something in return
Some negative marks in your credit history — like a foreclosure or tax lien — aren’t going away. But collection agencies and lenders may remove charge-offs or collection accounts if you negotiate with them.
Before you pay anything, write a letter to the creditor and ask to have the charge-off removed or marked as “paid as agreed” in exchange for your payment. After the creditor agrees (in writing) to remove the negative mark, pay the balance. Better yet, as Cindy mentions in her question, offer a radically reduced amount. If you owe $8,000, offer $1,000 and settle for $2,000. After all, this is found money for the creditor. They’ve already written it off, so anything they get is better than nothing.
This process is called “pay for delete.” You can find a sample letter by searching the term “Pay for Delete Sample Letter” on this site or others. Note: Some debt collectors are happy to lie to collect a debt. If it’s not in writing, it didn’t happen.
Also important: Before contacting a lender or collection agency, you should know that making a partial payment on a debt or in any way acknowledging its accuracy could restart the statute of limitations.
I won’t bother with a long explanation of what this means; I’ve already written about it in “Ask Stacy: Is There a Statute of Limitations on Debt?” Suffice to say that acknowledging that a debt is legitimately yours could give the lender or collection agency the ability to sue you and get a judgment when they may not have otherwise been able to do so. So, whenever dealing with anyone attempting to collect a debt, choose your words and deeds very carefully.
When in doubt, talk to a consumer lawyer.
If you’re not going to pay it, ignore it
If neither of these approaches work and you don’t require an instant fix to your credit score, the best idea may be just to let it go. Other than a clear conscience, you’re not going to gain much by simply paying off the debt. The older it gets, the less it will impact your score. And as I mentioned, after seven years, it drops off entirely.
Hope that answers your question, Cindy!
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The questions I’m likeliest to answer are those that come from our members. You can learn how to become one here. Also, questions should be of interest to other readers. In other words, don’t ask for super-specific advice that applies only to you. And if I don’t get to your question, promise not to hate me. I do my best, but I get a lot more questions than I have time to answer.
I founded Money Talks News in 1991. I’m a CPA, and I’ve also earned licenses in stocks, commodities, options principal, mutual funds, life insurance, securities supervisor and real estate.
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