Financial strain is inevitable and it can happen to anyone. To deal with such a situation people often look for ways to sort their financial commitments without worrying about the consequences. For example, there are multiple debt relief options available and yes they can help reduce your debt but they can stick around on your credit report, sometimes for as long as 10 years.
Every debt relief option comes with eligibility criterias and most importantly, there are consequences that you need to be ready for. In order to ensure that you are using the right path forward, it’s important that you first study the type of debt relief you are committing to.
Types Of Debt Relief Options And Their Effect On Your Credit Score
Here are some of the most common debt relief options people often opt for;
- Debt Management Plan: Also known as debt counseling, a debt management plan involves a credit counselor who is responsible for making a budget and repayment plan for the client to get him out of debt. This type isn’t reported to the credit bureaus but yes, you’ll notice a drop in your score when some of your accounts close.
- Debt Consolidation: In debt consolidation, you basically take a new bigger loan to pay off your other multiple creditors. It’s like combining all your debts into one and then paying a single monthly installment on that loan. It will affect your credit score a little but it will reported like a normal loan so the dip will only last for a few months.
- Bankruptcy: Declaring bankruptcy should be one of your last resorts when you’ve exhausted all other debt relief options. It can cause serious damage to your credit score and the recovery will take a long time.
- Debt Settlement: You negotiate with your creditor on reducing your debt amount. You pay a lump sum amount to the lender and request him to write off the rest of the amount. A settled account can damage your credit score and it can stay on your report for up to 7 years.
What Makes Debt Settlement Stand Out?
Out of all the other debt relief options, debt settlement stands out mainly because it reduces your debt amount and it’s a faster route to become debt-free. Most importantly, debt settlement is for those who can’t afford to pay the amount due. If you are going through a serious financial hardship like loss of income, a divorce or some medical emergency then without a doubt, this is going to be your best bet.
For a successful debt settlement, all you need is some good negotiation skills. If you know how to talk to your creditor, have a valid reasoning on why you can’t pay the debt and can afford to pay the lump sum amount then you can expect your deal to go through without any problem.
What’s Considered A Good Debt Settlement Deal?
One of the most important things in a debt settlement is that you need to come up with a strong and convincing proposal that your creditor can easily agree on. For this, you need to offer a realistic percentage of the debt you owe so that it’s a win-win for both you and the lender.
No creditor would agree on writing off a debt without any valid reason. Moreover, you need to have a history of late or missed payments to show your lender that you really can’t afford to make the complete payment anytime soon. This will just put the lender in a pressure situation where he would accept the amount you are offering instead of just losing it all.
A good and realistic settlement offer would be 50% or more. If you are offering your creditor anything less than that then he will most likely reject your offer. The wiser move would be to start with 30%, expect the creditor to reject your offer at first, make a counter offer, negotiate more and then finalize the deal at 50%. Such a negotiation will help you and your creditor lock a benefiting deal.
The Impact Of Debt Settlement On Your Credit Score
Every debt relief solution comes with a downside. You can’t expect to become debt-free without facing any challenges and struggles and the same is the case with debt settlement.
A debt settlement will severely damage your credit score but don’t worry because that damage won’t be permanent and you can easily recover it with time. If you cease making regular payments to your creditor to get more leverage during the debt settlement negotiations, it will also impact your credit score.
Your payment history makes up around 35% of your FICO score so any late or missed payments will always be reported to your credit bureau and it will seriously affect your credit score. Even if you are successful with a debt settlement with your client and pay the amount agreed upon, your report will still show that you have a history of late payments.In a nutshell, the entire debt settlement process can really take a dig at your credit score and this is inevitable so you should be prepared for it. Debt settlement will stay on your credit report for up to seven years.
How Long Will It Take To Rebuild Credit After Debt Settlement?
After a debt settlement, your credit report will show “settled” for a long time but that shouldn’t stop you from trying to rebuild your credit score. The negative impact will just decline with time. If you keep your other reported accounts in a good standing, you can expect a substantial improvement in your credit score within a year.
It’s of utmost importance that you start building your credit report right away because lenders usually consider your recent payment history and the more recently the settlement occurred, the more negative impact it will have.
Here are some tips that can help you build a strong credit game after a debt settlement hit;
Make Timely Payments
Your payment history is the biggest indicator of risk for your future creditors. Even a single delayed or missed payment can have a substantial effect on your credit score so make sure that you don’t let that happen.
Keep Reviewing Your Credit Report
Credit report errors and inaccuracies are quite common and people often overlook them. These errors can further reduce your credit score so you should keep reviewing the report every now and then. If you find any error in it, dispute it and get it removed at your earliest.
Keep Your Credit Utilization Ratio Low
Your credit utilization ratio can make or break your credit score. When your report has already suffered a lot due to debt settlement, you need to ensure that you are spending as little of your balance as possible. You should only spend 30% or less of your credit limit to ensure no further damage to your score.
Pay Off All Your Past Due Debts
Charge offs, delinquent accounts or accounts in collections, all these can severely damage your score so if you want to build your report again then make sure to pay all your past debts at your earliest or bring them current as soon as you can.
Overall Verdict
Every debt relief option comes with its own pros and cons so people with different situations will have different conclusions when choosing the right option. Debt settlement and bankruptcy are two aggressive approaches for people who are in dire need of a solution but don’t have enough funds to pay off the debt. Both these options come with long term consequences on your credit reports but they can also prove to be the first step in helping you gain control of your financial situation.
If you still have any doubts about what route to take, it’s best to talk to a financial counselor or a money coach who can guide you through the process and help you make a budget, review your expenses and track your financial decisions. All of this will eventually lead you to your financial goals.
FAQs
Q1.Can Debt Settlement Be Removed From A Credit Report?
This can only happen if the information provided to your credit bureau is incorrect. You won’t be able to remove a debt settlement from your credit report. You can just try and negotiate with your creditor to mark it as ‘paid in full” to save yourself from credit damage.
Q2. What Happens If I Don’t Pay My Credit Card For 5 Years?
If you don’t pay your debt for 5 years, the credit card company will “Charge off” the account. It will be written as “bad debt” and your account will be closed immediately.
Q3. Can We Improve Our Credit Score After Debt Settlement?
Yes, you can improve your credit score after a loan settlement. If you start early, you can see visible improvements in your score within 12 to 24 months. You just have to stay consistent with your efforts and showcase responsible financial behavior.
For the most efficient and effective debt relief services, try Mountains Debt Relief. Our experts will do their best to help you gain financial freedom.