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Reviewed By:
Ashley Davison
Ashley Davison
Editor
Ashley is currently the Chief Compliance Officer for Credit Saint, previously the Chief Operating Officer. Ashley got into the Financial world by working as a Logistics Coordinator at Ernst & Young. Coming from a previous career in education, she is eager to teach the world every...
Debt settlement usually hurts your credit. The account is reported as settled for less than the full balance, and the missed payments that often come before a settlement are reported too.
That negative history can stay on your report for seven years from the date the account first became delinquent, though its effect tends to fade over time.
Settling can bring real relief. Here’s how it shows up on your report and what alternatives may fit.
Key Takeaways
Debt settlement means negotiating with a creditor to pay a lump sum that is less than the total amount owed.
Settled accounts are reported to the credit bureaus and can lower your credit score; the negative history can stay on your report for up to seven years.
The process often involves stopping payments, which can lead to late fees, penalties and more credit damage.
Alternatives such as debt management plans or credit counseling may be a less damaging way to resolve debt.
What Is Debt Settlement?
Debt settlement means you, or a company you hire, negotiate with a creditor to pay less than the full balance. If the creditor agrees, it takes a lump sum and forgives the rest.
It’s most common with unsecured debts like credit cards. A creditor doesn’t have to agree to a settlement, and the CFPB warns that some creditors may refuse to work with a settlement company.
Most debt settlement companies ask you to stop paying your debts so creditors will negotiate. You deposit money into a dedicated account instead, and you may pay fees for that account. Once enough builds up, the company makes an offer.
While you aren’t paying, your accounts fall behind. Late fees and interest are added each month, creditors may step up collection efforts, and a creditor may sue you. The missed payments are reported as delinquent accounts.
How Does Debt Settlement Affect Your Credit Score?
Debt settlement usually lowers your score in two ways: the missed payments before the settlement, and the settled status itself.
Settled status: The creditor updates the account to show it was settled for less than the full balance, or a similar note. Lenders read that as a debt that wasn’t paid as agreed.
Missed payments: Late payments hurt because payment history is about 35% of a FICO Score, the largest single factor.
How long it lasts: The negative history can stay on your report for seven years from the date the account first became delinquent, under the Fair Credit Reporting Act. Its effect tends to fade as it ages.
How much your score drops: That depends on the rest of your credit profile, so it’s different for everyone.
What Are the Alternatives to Debt Settlement?
Settlement isn’t the only option. Depending on your situation, one of these may cause less damage to your credit:
Debt management plan: A nonprofit credit counseling agency sets up a repayment plan with your creditors, often at lower interest.
A settled account stays on your credit report for seven years from the date the account first became delinquent. Even after it’s paid, lenders can see the negative history during that time. Learn more in our guide on how long collections stay on your credit report.
Yes, but it can be harder. Lenders may see a settled account as a sign of higher risk, because the debt wasn’t paid as agreed. You may face denials or higher interest rates until your credit recovers and the settled account ages.
For your credit, paying in full is generally viewed more favorably than settling for less. Lenders tend to see a “paid in full” status on your report more favorably than an account “settled for less than the full balance.”
It can. Creditors generally issue a Form 1099-C when $600 or more of debt is canceled, and the forgiven amount may be treated as taxable income depending on your situation. A tax professional can tell you how it applies to you.
Bottom Line on Debt Settlement and Your Credit
Debt settlement usually hurts your credit. The missed payments and the settled status can stay on your report for seven years, though the effect fades over time. Compare a debt management plan, credit counseling or consolidation first. If a settled account is already on your report, make sure it’s reported accurately.
Reviewed By:
Ashley Davison
Editor
Ashley is currently the Chief Compliance Officer for Credit Saint, previously the Chief Operating Officer. Ashley got into the Financial world by working as a Logistics Coordinator at Ernst & Young. Coming from a previous career in education, she is eager to teach the world everything she knows and learn everything that she doesn’t! Ashley is a FICO® certified professional, a Board Certified Credit Consultant, a Certified Credit Score Consultant with the Credit Consultants Association of America, UDAAP certified, and holds a Fair Credit Reporting Act (FCRA) Compliance Certificate.
