I’m often asked, “If I pursue Debt Resolution (our program to settle credit card debt) to resolve my credit card debt, how will my Credit Score be affected? The answer is, anytime you fall 30 days behind on a reported debt (credit cards, mortgages, HELOC, car loans, etc.), it hurts your credit score. The question is how much hurt and for how long?
Your credit score is based on three factors: (1) total debt, (2) pay history and (3) the ratio of debt to available credit. If you adopt a program to resolve your credit card debt, initially your pay history suffers. Typically, at that point, you don’t have a lot of available credit so the effect on this factor is minimal. On the flip side, as we reach settlements on the debt, the settlement is reported on your credit report and therefore your aggregate amount of debt declines, which helps to boost your score.
Our estimates are that typically, a credit score will fall 85 – 100 points during the debt resolution program, but within a year of the debts being resolved, it bounces back – and sometimes exceeds where it was at the time the program began. A common result would be the client has a 720 score when they come in with $80,000 of credit card debt. During the program when no payments are being made on the cards (and you are saving the $2,000 per month you would be paying- which creates the money we use to settle the claims with), your score will fall to the low 600’s. A year after the program completes, assuming your are timely paying all other obligations, your score will return to 700+.
So here is the good news – yesterday (8/7), as reported in The Wall Street Journal, the Fair Isaac, (the Credit Score company) announced “that it will stop including in its FICO credit-score calculations any record of a consumer failing to pay a bill if the bill has been paid or settled with a collection agency . . . and will also give less weight to unpaid medical bills that are with a collection agency.”
THIS IS TERRIFIC NEWS IN THAT IT WILL MAKE THE REBOUND ON CREDIT SCORES EVEN FASTER! The key is you must “settle the debt” – it does not mean that if you don’t pay – it won’t be reported. If you asked me for a holiday present in August, this would be on my wish list. Thank you Fair Isaac!
So here is what this mean to you: If you are carrying significant credit card debt – $20,000 or more – the program to resolve your credit card debt is even more attractive. Of course, before you pursue that – you must go through the proper steps. Rule #1 – Preserve Future Income for You and Your Family. Rule #2 – Determine the least costly, most effective way to resolve the Debt, taking into account tax consequences, your income and your job situation. Once that is done, you’re ready to act. Debt resolution may be the best option for you – but sometimes Bankruptcy (Chapter 7 or 13) is far better. You need the analysis as to which is optimal – and then you can choose.
The news on the FICO score is a welcomed benefit. It’s not, however, a game changer. The game changer is the day you realize how much money you are wasting by paying 20% interest on your credit card debt for countless years. As soon as you say, “This has got to stop” – that’s the game changer! If you want to change your game – see the P.S. and P.P.S. below!
Have a great weekend.