What is a Charge-Off and How Does It Affect My Credit?

charge-off and credit

If you go long enough without paying your credit card bill, several things can happen. Your credit card becomes more expensive since you’ll owe late fees and more interest. Creditor phone calls and letters flood in demanding payment. You may even start hearing from debt collectors. Before long, life can feel overwhelming.

Any of these consequences are serious enough on their own. But when you’re significantly past due on your bill, something else could happen called a charge-off.

The term charge-off refers to how the bank or credit card issuer reports the account to the IRS for tax purposes. However, if you see a charge-off on your credit report, sometimes it can be confusing. Do you still owe anything? And how does a charge-off affect your credit score?

Let’s dive into what a charge-off actually is, how it can happen, and the impact it can have on your credit.

A charge-off is a loss

Without being able to collect the balance and interest on your credit account, it’s no longer in a credit card issuer’s favor to hold onto your debt.

At 180 days without payment, your credit card issuer can charge off your account — in other words, write off the debt as a loss. The issuer could sell the debt to a debt collector, who will then seek to get repayment from you. In this way, the issuer can try to recoup some of the loss, even if it’s not very much.

But what can lead to this situation in the first place?

Charge-offs can happen from a crisis or mistake

We’ve all been there. Maybe you spent too much one month and now the credit card bill is due. Assuming you can make at least the minimum payments, then you’ll probably be alright. But if you can’t make the minimum payment and decide not to pay at all, your account becomes delinquent.

Or maybe you’ve found yourself in a serious financial bind from a divorce, losing a job, or having to deal with a health or family crisis. Whatever the case, you’re not making enough income and are using credit cards to pay for everything. Pretty soon you’ve racked up high credit card debt. And without enough money coming in, there’s no way you can pay it down. It’s even become difficult to pay the minimum. Eventually, you stop making payments altogether.

When you don’t make the payments, here’s what likely happens next:

  • After 30 days of no payment, you’ll start to receive late notices. You’ll be charged late fees — usually between $25 and $35 — and your interest rate could go up.
  • You’ll continue to receive late notices every 30 days that you don’t pay. And you’ll still be responsible for the amount of the payments plus additional late fees.
  • Once you reach 180 days past due, your account may be charged off. The charge-off — and any debt collection process that may result from it — will likely be noted on your credit report.

Even if you start to pay back your debt at some point, once your account is charged off, the damage has already been done to your credit.

Charge-offs affect your credit and taxes

A charge-off is a serious negative to your credit score, mostly because the missed payments that led to the charge-off can drop your score significantly, anywhere from 60 to 110 points.

Generally, negative information stays on your credit report for seven years. Even though paying back your debt is a positive signal to the credit bureaus, it won’t immediately improve your credit. And while the charge-off will eventually fall off your report, you’ll still have to spend time trying to fix your credit score.

But a lowered credit score isn’t the only thing you’ll have to face. Let’s say you settle with the debt collector and pay back only a portion of your debt. The canceled (or forgiven) portion of the debt can then be considered taxable income. For example, if the debt collector accepted $600 less than the original balance, the collector is required to file it with the IRS. In turn, you’ll receive notice from the IRS that the $600 in canceled debt must be reported as income, and you’ll owe taxes on it.

Before you have to owe anything to the IRS, it’s important to address the original debt.

You’re still responsible for paying the debt

A charge-off does not mean you’ve automatically been forgiven the debt and no longer have to pay anything.

To resolve a charge-off and get back to building up good credit again, you’ll need to do the following:

  • Pay what you owe. Once your account goes to collections, you could be sued for payment and denied future credit or loans. To avoid these and other problems, it may be best to work with the collector to pay back the debt as soon as possible. Although the account will probably still report as a charge-off or collection, a zero balance will show that you made an effort to pay back what you owed.
  • Try negotiating with your credit card issuer. If you’re worried about not getting approved for future loans, see if you can get the charge-off removed from your credit report. Talk to the original issuer, rather than the debt collector, and ask if they can remove the charge-off if you agree to pay in full or make other payment arrangements. The more you can pay off and the sooner you can pay, the better. Be aware that some creditors may refuse such a request.
  • Get it in writing. If you are able to convince your issuer to remove the charge-off from your credit report, make sure to get it in writing. You’ll also need to follow up when your part of the payment agreement has been met to make sure the charge-off is removed.

Take care of your credit

A charge-off is no small concern when it comes to your credit. It can lead to years of having a poor credit score, paying higher interest rates, and owing a pile of fees and penalties. You could also be hounded by debt collectors and even be subject to legal judgments.

Dealing with your charge-off responsibly is always in your best interest to help improve your credit. Pay off the debt and stay on top of any other debts or bills you have. And if you do have a past charge-off on your credit report and need help fixing it, contact the credit repair experts at Lexington Law.

 

 

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