What happens if you settle a charged off account?

Settling a Charged-Off Account: What You Need to Know

A charged-off account signifies a debt that your creditor has essentially written off as uncollectible. This doesn’t mean the debt disappears; it simply means the creditor has stopped actively pursuing payment through traditional means. However, settling a charged-off account offers a path towards financial resolution, but it’s crucial to understand the implications before you agree to any terms.

Reaching a settlement usually involves negotiating a lump-sum payment with the creditor or debt collection agency. This payment is typically less than the original debt amount—a significant incentive for settling—but it’s still a substantial financial commitment. While some creditors might offer payment plans, a one-time payment is more common. The specific terms are highly negotiable, depending on your financial situation and the creditor’s willingness to compromise.

What happens after you settle?

Once the agreed-upon settlement amount is paid, the creditor will typically mark the account as “settled” or “paid in full.” This is a critical element – a settled account differs from a paid-in-full account in terms of its reporting to credit bureaus. While both reflect a resolution, a “settled for less than the full amount” reporting can still negatively impact your credit score, albeit usually less severely than a continuously delinquent account. This impact usually remains on your credit report for seven years from the date of the original delinquency, not from the settlement date.

Crucially, the settlement will likely be reported to the credit bureaus. While it won’t show as a paid account, it will indicate a resolution. The specific reporting will vary depending on the agreement reached and the creditor’s reporting practices. Some creditors may report the settlement as “paid,” which is advantageous to your credit score, while others may report it as “settled” indicating the debt wasn’t paid in full. Before settling, explicitly inquire about how the settlement will be reported to credit bureaus.

Potential Downsides:

• Tax Implications: The IRS considers the difference between the original debt amount and the settlement amount as taxable income. You’ll need to report this as “cancellation of debt” income on your tax return.
• Credit Score Impact: Even though settling is generally better than letting the debt remain unpaid, it can still negatively affect your credit score, albeit usually to a lesser degree than continued delinquency.
• Future Lending: Settling a charged-off account might make it more difficult to obtain loans or credit in the future, at least until the negative impact on your credit score diminishes.

Before you settle:

• Negotiate: Don’t accept the first offer. Research comparable settlements and try to negotiate a lower amount.
• Get it in writing: Obtain written confirmation of the settlement agreement, including the payment amount, the date of payment, and how the settlement will be reported to the credit bureaus.
• Seek professional advice: If you are struggling with debt, consider seeking guidance from a financial advisor or credit counselor. They can help you navigate the process and develop a comprehensive debt management strategy.

Settling a charged-off account can offer a path to financial relief, but it’s a complex process with potential drawbacks. Thorough research, careful negotiation, and a clear understanding of the implications are paramount to making an informed decision that best aligns with your financial goals.