When a credit card bill or another debt goes unpaid for an extended period of time, it can eventually be turned over to a collection agency. You’ll likely be barraged with letters and phone calls — if you haven’t been already — as the debt collector tries to get you to pay up. Aside from that headache, collection debts can also be bad for your credit health.
That said, paying of your old collection debt isn’t always the best move. There are several things that can influence your final decision.
Credit Score Impact of Collection Debts
Negative account history, including collection accounts, can be detrimental to your credit scores. The extent of the damage depends largely on where your score was before a debt was sent to collections.
“The better your score, the more significant the drop will be,” says Leslie Tayne, a debt resolution attorney and founder and managing director of Tayne Law Group.
Debt collectors can report collection accounts to one, two or all three credit bureaus. Collections can stay on your credit reports for up to seven years from the date of the first delinquency.
Collection accounts are considered negative and will lower your credit score. Nathalie Noisette, founder of credit repair company Credit Conversion, says, “Fortunately, the impact does fade over time.”
The longer a collection debt remains on your credit report, the less it hurts your score as the debt ages. But even if you can live with the damage to your credit, you could face other consequences.
Debt collectors can and do sue for outstanding debts. If you’re sued and the collection agency wins a judgment against you, it can then take additional steps to collect the judgment. That can include garnishing your wages or bank account. The good news is, judgments are no longer routinely reported on credit reports, which means it wouldn’t impact your credit score any more than the collection already has.
If you’re worried about being sued for a collection debt, you may want to pay it off or offer the debt collector a settlement to avoid a lawsuit. That could also benefit your credit score, as some credit scoring models, like FICO 9, don’t count paid collection accounts against you.
Where the Statute of Limitations Comes In
Federal laws restrict what actions debt collectors can take to pursue an outstanding debt. State laws set limits on how long a debt is collectible.
Those limits are determined by the statute of limitations, which establishes a specific window for debt collection. According to the federal Consumer Financial Protection Bureau, the statute of limitations for debt collection is typically between three and six years for most debts. This window of time opens when you miss your first payment on a debt.
The specific time frame in which debt collectors are allowed to collect a debt can vary based on the type of debt involved. For example, one law may cover credit cards or other types of revolving debt and another may cover installment debt, such as student loans or mortgages. Medical debts may fall into a category of their own.
Understanding the statute of limitations is important because once the clock stops ticking on a debt, you can no longer legally be sued for it. If you’re nearing the end of a debt’s collectable life cycle, you may decide to risk the possibility of a lawsuit and let the statute of limitations wind down.
But don’t assume that a debt collector won’t make the effort to take you to court before time runs out, even if the debt is old or it’s not a large amount. There’s no way to predict what a debt collector will or won’t do.
It’s also important to be mindful of your interactions with debt collectors if you’re waiting for the statute of limitations to expire.
“The (statute of limitations) clock typically restarts if you make any payment at all on the debt, meaning collectors will have even more time to sue you,” Tayne says. “Even if you make a payment of $1, you’ve lost the statute of limitations.”
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The Statute of Limitations Isn’t Absolute
While the statute of limitations can shield you from debt collection efforts, it’s not completely bulletproof.
According to the CFPB, most states allow debt collectors to continue attempting to collect a debt after the statute of limitations expires. While collectors might not be able to sue you, they could still call you or send you letters requesting payment as long as they’re not trampling on your legal rights.
Specifically, they can’t violate the rules outlined in the Fair Debt Collection Practices Act. This act specifies that debt collectors can’t:
— Contact you before 8 a.m. or after 9 p.m.
— Contact you at unusual times or places that they know are inconvenient for you, such as your work.
— Harass you by phone, email, text or any other means.
— Continue contacting you after you’ve let them know you’re represented by an attorney.
— File or threaten to file a lawsuit after the statute of limitations has expired.
If on the off-chance you’re sued for a collections debt that’s considered time-barred or uncollectable based on the statute of limitations, don’t skip out on the court date. You’ll need to offer proof, such as billing statements or credit reports, to show that the statute of limitations has expired for the debt. Otherwise, the court could award a judgment in favor of the debt collector.
When It Could Make Sense to Pay Off an Old Collection Debt
An obvious reason to pay off collection debts is if you’re angling for a better credit score.
“The tangible benefit to seeing collections come off of a credit report is a credit score increase,” Noisette says. “If you’re trying to acquire a mortgage, removing or paying off a collection account is vital since the No. 1 factor lenders are looking at for approval is your payment history.”
Depending on the type of mortgage you’re applying for and the nature of the collection debt, your lender may expect you to pay it off before approving you for a loan. With FHA loans, for example, nonmedical collection debt totaling less than $2,000 may not need to be paid off, but you may have to clear debts over that amount at closing.
Tayne says to talk to your mortgage lender or broker beforehand to learn about the impact of collection debts and what you need to do to improve your credit.
“Remember, even if you don’t have great credit, or there are delinquencies on your report, you might still be able to get a mortgage,” she says. It just may come at a higher interest rate.
Even if you aren’t planning to apply for a home loan any time soon, you may want to raise your credit score for other reasons.
For example, you may be attempting to get a car loan, upgrade your rewards credit card or refinance student loan debt. Your credit scores would come into play for those scenarios, and getting rid of old collection accounts could help your chances of approval.
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Talk Over the Options With a Credit Expert
Noisette says the best thing to do if you’re unsure whether to pay off a collection account is to have your credit assessed by a professional credit counselor. He or she can help you figure out the best way to handle an old debt. Looking for a National Foundation for Credit Counseling member agency is a good place to start.
For example, you may want to pay the debt, but you don’t have enough cash reserves to pay in full. A credit counselor could negotiate with the debt collector on your behalf or guide you in doing so to arrange a payment plan. A debt management plan with a credit counselor could help you avoid debt settlement or bankruptcy.
But you may also consider speaking with a bankruptcy lawyer if you’re dealing with a large amount of unpaid collection debt.
Tayne says, “Talk to an attorney in your state who can advise you on the law and your particular debt situation, credit situation and the legalities. You should be told the pros and cons of paying off your old collection debts and what that means to your individual situation.”
Bottom line, Tayne says: If the debt is yours, the morally right thing to do is pay it off. Getting professional advice can help you manage collection debts appropriately to minimize any legal consequences or further damage to your credit score.
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