Happy Couple How Debt Settlement Affects Your Credit Report

Summary: Settling debt can hurt your credit, but it does less damage than not paying a debt at all. Settled debt will typically stay on your credit for seven years. If you want to settle your debt and be done with it, Solo is here to help.

If you've had a debt go to collections, you already know that even a single charge-off can tank your credit score. You're probably wondering how to get out of debt so that you can work on building your credit back up.

Settling your debt may be the best way forward, but it still comes with negative consequences. Here's a closer look at how debt settlement affects your credit report.

Read our debt settlement guide to learn more about how to settle your debt and save thousands.

Settle with SoloSettle

Make an Offer

What is debt settlement?

A debt settlement is when you resolve a debt for less than its face value. Creditors usually only consider settling a debt when it is seriously delinquent, like if you haven't made a payment in at least three months.

However, a creditor isn't likely to reach out to you to negotiate a settlement. You'll have to ask first.

But how much should you offer to settle the debt? Consider these useful debt settlement facts:

On average, creditors and debt collectors settle for 40% to 60% of the face value of the debt.
Settlements can be as low as 10% or as high as 80%.
Debt collectors (as opposed to original creditors) are more likely to settle for lower amounts.
Collectors and creditors often require lump-sum settlements, but some may accept payment plans.
Debts closer to the statute of limitations are more likely to be settled.

To see how debt settlement works, let's look at an example.

Example: Joey is served lawsuit papers that say he's being sued for $5,000 in old credit card debt. He files an Answer with SoloSuit to avoid a default judgment. Then he gets in touch with the creditor to ask about settling. To start, Joey makes an offer of $2,500. The creditor counters with $3,500, and they ultimately decide on $3,000. Joey makes the payment, and his debt is done.

Are you being sued for a debt? It only takes a few minutes to send an Answer with SoloSuit.

Debt settlement can damage your credit, but that's not the whole story

You might have heard that settling debt is bad for your credit. That's true, but other options can be even worse. A settled debt is a red flag for lenders, but it's not as bad as having an active debt in collections or losing a debt lawsuit.

When a debt gets charged off or sent to collections, your credit score takes a hit. A derogatory mark like this will stay on your credit report for seven years (15 U.S. Code § 1679c). Regrettably, this is true whether you pay the charged-off debt in full, settle it or ignore it.

However, depending on what you do after the debt is charged off, you could mitigate some of that credit damage. The charge-off will still be on your credit report, but lenders can see if you took action to sort out your mistake.

Once a debt goes to collections, you generally have three options: pay it in full, settle it or do nothing.

Paying it in full looks better to lenders.
Settling it is better than ignoring it, but not as good as paying in full.
Ignoring it will be a major problem if you ever apply for a loan.

Most people who have had debt go to collections don't have the money to pay it in full. That's usually why the debt went to collections in the first place.

How debt settlement affects your credit report is less important than getting out of debt and moving on. If you can't pay in full but you want to do what you can to limit credit damage, settling the debt can be a good compromise.

SoloSettle simplifies the process of debt settlement. Get started in minutes!

Settling your debt can help you avoid a court judgment

There's another reason you should consider settling charged-off debt instead of ignoring it. Although the Fair Debt Collection Practices Act (FDCPA) (15 U.S. Code §§ 1692-1692p) places limits on when and how often third-party debt collectors can call you, they're infamous for hounding consumers to pay past-due debts.

If a debt collector can't get you to pay an account in collections, they may file a debt lawsuit against you. At this stage, you'll need to file an Answer in order to avoid a default judgment.

A default judgment is when the debt collector wins the case automatically. Once this happens, debt collectors are allowed to use these extreme measures to collect the debt:

Wage garnishment.
Taking funds from your bank account.
Putting a lien on your home.

Some kinds of income, like Social Security, are exempt from wage garnishment (42 U.S. Code § 407). The good news is that if your wages are garnished, federal and state laws limit the amount of each paycheck the debt collector can take.

Get ready to negotiate a debt settlement with these five steps

If you're getting ready to settle your debt, it helps to have a plan. These tips may increase your chances of negotiating a fair settlement with the debt collector:

Step 1. Determine what you can pay

Before you reach out with a settlement offer, sit down and look at your finances to determine what you can afford to pay. When in doubt, err on the side of caution. If you offer more than you can reasonably afford to pay, you'll just be setting yourself up for failure.

Step 2. Be ready to offer a lump sum

More often than not, debt collectors and creditors want you to settle debt with a lump sum. A payment plan might be better for your budget, but the debt owner will probably worry that you'll default on the arrangement. Many creditors and collectors don't want to take that risk.

It doesn't hurt to ask for a payment plan, but you should be prepared for them to say no.

Step 3. Explain your financial hardship

You don't need to write an essay, but it can be helpful to inform the debt owner why you haven't been able to pay. This is especially important if you fell behind due to something like a medical crisis or job loss. Creditors and collectors are more likely to settle debt if they understand why you can't pay it in full.

Similarly, it may help to tell the creditor if you're exempt from wage garnishment, if you have limited assets or if you're seriously considering bankruptcy. Creditors know that a settlement makes more financial sense than suing someone who is judgment-proof.

Step 4. Keep your first offer low

Debt collectors almost never accept the first settlement offer. You should expect a counteroffer going in, so your first offer should be on the lower end of what you can afford.

However, this offer should still be reasonable. Debt collectors might assume you're not serious about settling if your first offer is very low. For instance, offering to settle a $6,000 debt for $2,000 (to start) is relatively reasonable, but offering $200 is not.

Step 5. Get the agreement in writing

Before you make any kind of payment, get a copy of the settlement agreement in writing. This is an extremely important step. A settlement agreement is a legal contract between you and the collector, and it can protect you if problems arise.

For instance, it's not unheard of for debt collectors to accept a settlement and then try to sue for the full amount anyway. If you're unfortunate enough to have this happen, your written settlement agreement can serve as your lawsuit defense.

Key takeaways: How debt settlement affects your credit report

If you have past-due debt that you can't pay in full, settling your debt might be a good idea. However, before you make an offer to settle, you should consider the following:

When a debt is marked as "settled" on your credit report, it will cause your score to drop.
Settling a debt means you failed to pay it as agreed, so it makes you look riskier to lenders.
Settling a debt causes less credit damage than paying nothing.
If you haven't been sued yet, settling your debt now could help you avoid a lawsuit.

Ready to settle your debt? SoloSettle makes it simpler.

FAQ

Is it better to settle your debt or pay in full?

Paying your debt in full is generally better for your credit. However, if you can't afford to pay in full, settling your debt is a viable alternative. It will still show up on your credit report, but it's not as bad as ignoring the debt altogether.

How much does debt settlement affect your credit score?

That depends on several factors, but in general, debt settlement could lower your credit score by around 100 points. If you had a high credit score before, settling may have a more significant impact. Your debt settlement will stay on your credit report for seven years, but it becomes less impactful over time.

How to Answer a Summons for debt collection in all 50 states

Here's a list of guides on how to respond to a debt collection lawsuit in each state:

The Ultimate 50 State Guide

Debt collector guides

Are you being contacted by a debt collector? We're making guides on how to resolve debt with each one.

Arbitration

If the thought of going to court stresses you out, you're not alone. Many Americans who are sued for credit card debt utilize a Motion to Compel Arbitration to push their case out of court and into arbitration.

Below are some resources on how to use an arbitration clause to your advantage and win a debt lawsuit.

Bankruptcy

Bankruptcy is a great way to legally resolve debt, but it's usually best to consider it as a last resort. Here are some bankruptcy guides to help you decide which debt resolution option is best for you.

Check your case status

Don't have time to go to your local courthouse to check the status of your case? We've created state guides on how to check the status of your case throughout the US, complete with online search tools and court directories.

Credit

Debt has a big impact on your credit. Below is a list of guides on how to repair and improve your credit, even while managing major debt, along with other credit-related resources.

Debt collection FAQs

Find answers to some of our the most commonly-asked questions about debt collection below.

Debt collection documents and templates

If you're dealing with debt, these documents and templates will help you respond, protect your rights, negotiate, and resolve your debts.

Debt relief

We've created a specialized guide on how to find debt relief in all 50 states, complete with steps to take to find relief, state-specific resources, and more.

Debt settlement

Debt settlement is one of the most effective ways to resolve a debt and save money. We've created state guides on debt settlement. Find out how to settle in your state with a simple click and explore other debt settlement resources below.

Eviction

Facing an eviction? The following guides will help you navigate your situation with confidence.

Federal debt collection laws

Knowing your rights makes it easier to stand up for your rights. Below, we've compiled all our articles on federal debt collection laws that protect you from unfair practices.

Legal aid

Helping people find access to justice is at the heart of Solo's misison. If you're dealing with a legal debt issue, the following guides will help you through it.

Medical debt

Having a health challenge is stressful, but dealing with medical debt on top of it is overwhelming. Here are some resources on how to manage medical debt.

Personal finance

Learn how to manage your finances and overcome crushing debt. Check out our personal finance guides below.

State debt collection laws

Debt collection laws vary by state, so we have compiled a guide to each state's debt collection laws to make it easier for you to stand up for your rights—no matter where you live.

Statute of limitations on debt

Like all debt collection laws, the statute of limitations on debt varies by state. So, we wrote guides on each state's statutes and more.

Stop collection calls

Do you keep getting calls from an unknown number, only to realize that it's a debt collector on the other line? If you've been called by any of the following numbers, chances are you have collectors coming after you, and we'll tell you how to stop them.

Wage garnishment

Forgot to respond to your debt lawsuit? The judge may have ordered a default judgment against you, and with a default judgment, debt collectors can garnish your wages. Here are our guides on how to stop wage garnishment in your state, plus other wage garnishment resources.

The Debt Hotline

Hosted by Team Solo, The Debt Hotline breaks down debt and personal finance topics with help from attorneys, financial experts, and industry pros. We respond to real questions to help you navigate debt with knowledge and courage.

How Debt Settlement Affects Your Credit Report