This is the tenth and final post in a series discussing the most common myths about do-it-yourself debt settlement, as compared to hiring a third-party company. In this article, I’ll discuss the myth that settlements negotiated by professional debt relief firms carry less credit damage than self-negotiated settlements.
Before the FTC really started to crack down on the industry a couple of years ago, the entire subject of credit damage from settlements was downplayed to avoid scaring off potential clients. But if the credit objection was raised, sales reps would often claim that their company would negotiate a more favorable credit rating than the client could on their own. This myth doesn’t come up as often as it did a few years ago, but it’s still sometimes repeated online in debt-related articles, on landing pages for debt relief lead-generation sites, and during sales presentations.
Unfortunately, it’s a fact of life that settlements are damaging to your credit score. There really is no way around this, and there is no magic solution for this problem. Remember – debt settlement is best viewed as an alternative to Chapter 13 bankruptcy, so credit damage is already part of the overall financial picture anyway. The simple reality is that settlements get reported as settlements, period. The reporting language may say, “account settled for less than full balance,” or some variation on that theme, and the code attached to the entry is definitely negative compared to an account held in current standing. There is literally nothing that any company or individual negotiator can do to change this. All of the major banks have existing language in their settlement agreement letters that specifies how they will report, and these policies in turn are subject to the Fair Credit Reporting Act. Even if they wished to – which they most certainly do not! – creditors are not going to forgive a chunk of money AND do extra work to help you clean up your credit in the process. Why should they?
The above notwithstanding, I certainly have no objection to consumers making the effort at requesting a more favorable reporting on their settlements. It’s just that one should never give up a good settlement over this minor detail. When I do see exceptions, typically they pertain to debts that have been sold to a debt purchaser and are also beyond the legal Statute of Limitations. Under those conditions, it’s possible to get the purchaser to remove their separate derogatory entry upon settlement. However, the charge-off entry by the original creditor will usually still be there anyway, so the improvement will be incremental at best.
I have also seen techniques promoted that are very risky, just to give a potential customer the impression that the company has a “better” system for handling credit reporting on settled accounts. For example, some outfits claim they can have language inserted into the settlement letter that classifies the written-off balance as a disputed amount. Supposedly, this results in avoiding a 1099-C on the forgiven debt, and also gets the account reported under disputed status (and potentially even deleted outright). The problem with this approach is that it totally negates the value of the settlement agreement letter, leaving the consumer exposed to further collection activity – a far worse outcome than simply dealing with the expected credit impact of a reported settlement.
The bottom line is that there is nothing special a debt settlement company can do to reduce the damage to your credit score associated with reported settlements, so there is no credit-related advantage to be gained by paying someone else to do the negotiating. Further, it’s not all that difficult to restore your credit after completing the settlement process anyway. So there is very little reason to be concerned about this issue in the first place.
Myth busted. Settlement companies have zero influence on the manner in which settlements are reported on your credit file. Self-negotiated settlements will be reported in exactly the same fashion as professionally-negotiated settlements, and you can restore your own credit later on anyway.
Update January 3, 2023: Many consumers are concerned about credit reporting of settled or paid collection accounts because of fear they might have issues renting an apartment or a home until the credit report gets “cleaned up.” This leads people into various credit repair scams and schemes, which can often make things worse instead of better. If you are a landlord looking to screen a tenant, or a tenant who wants a credit screening for a rental without first having to disclose all your personal information, then a valuable resource is SmartMove’s resource page on renting with a “bad” credit score.
