And a Few More Credit Scoring Notes: Take These to the Bank
We've talked quite a bit about leveraging your legal rights in this book, but something else bears mentioning: When it comes to your credit, no law protects you against sheer stupidity. In other words the Dumb Consumer Protection Act (DCPA) just hasn't been enacted yet. And to counter this breathtaking legislative lapse, with this chapter we'll detail a few misconceptions that -- although they sound "reasonable" -- cost consumers dearly.
Thus far, if you've failed to make notes in the margins, mark up the pages, dog-ear sections for later reference, and so forth, you'll probably want to begin now. Heeding this chapter by itself could save you thousands or even tens of thousands (or more) of dollars in money that you surely would rather keep than push to your creditors.
First, as we mentioned in the previous chapter, some believe that if you pay off a collection or other charged-off account that it will no longer show on your credit report as a derogatory item. And, were it true, that would be a fair and sensible thing indeed. Unfortunately, our nation's consumer credit system isn't often set up to be either fair or sensible. In fact, such honorable intentions are always subjugated to sheer profit. The fact is that an account will continue to show as having been charged-off or sent to collections even if you pay it entirely. Shocking, huh?
Now, it's worth saying this: Paying your debts is an honorable thing. And your co-authors agree that, generally, good things are returned in life to those who behave honorably. Just don't expect a single score point.
The truth is in fact quite unfair: It is the mere presence of a charge-off on the credit report that depresses a credit score -- not its payment status. A charged-off account that's marked as "paid in full" will kill a credit score as quickly as an unpaid one. Interestingly, the creditor score doesn't know how to read. When the scoring program sees a note on a charged off tradeline that says "paid," that makes not sense to the scoring formula. The "paid" notation might as well say "consumer is from Mars" for all it matters to the score program. For creditors, just the fact that an account EVER charged-off at all marks you as an incredibly high credit risk. And even though the fact of your repayment should add back a few points, it doesn't.
Even worse, some people wrongly believe that paying off a collection agency will set the ORIGINAL credit notation to "paid." In other words, let's say a Citibank charge-off appeared on a credit report, and Citibank subsequently sold the allegedly unpaid debt to ABC Collections. Now you have TWO tradelines on your credit reports that are marked as charged-off. Do the bureaus label condense them to a single account?
Why no! If they did, your credit rating would appear to be incrementally better, and the system would never err on your side. Then subsequent creditors down the road might have to give you an incrementally better deal on credit, and that wouldn't be a good thing, of course. So the both the original charge off and the subsequent collection account remain.
And if you pay off the alleged debt's new owner (ABC Collections), the original creditor's tradeline (Citibank) remains frozen in time and will proclaim your current charged-off indebtedness until the seven-year reporting clock for that item expires.
Unfair? Of course! After all, you paid off the debt (with the operant word there being the "debt" -- it was only ONE debt), but one of the tradelines will continue to show as unpaid until the end of its time. And once again, when it comes to credit scores, no good behavior goes unpunished.
So, along the same lines, some people would reasonably believe that demonstrating fiscal responsibility by paying off installment credit would net a credit score reward. Uh, wrong. Curiously, and in another credit scoring quirk that benefits big banks, only REVOLVING credit repayment will increase a score. Banks don't want you to speed up the pace of an INSTALLMENT loan, for goodness sakes. Paying off that car early makes you a far less profitable customer, after all.
And, yes, that goes for student loans too. Let's take the example of two grad students. After graduation, Jane and Joe each owe $50,000 in student loans. Jane struck entrepreneurial gold and paid off her student loans in full a few months after graduating. Joe, on the other hand, conducted his life the way practically all ex-students do: He decided to keep his unpaid student loans around like pets for a decade.
So, assuming that their respective credit profiles are IDENTICAL otherwise, who's credit score is higher? The reasonable answer would be Jane's, right? After all, she's the one who has demonstrated financial skill, intelligence, and -- perhaps most importantly to banks -- the willingness and ability to repay her loans. Surely the system should spiff her a few extra credit score points. . But, alas, that's not reality...
Credit Revolution: Path of the Smart Consumer 2007 John C. Heath, Esq., Dr. Randy Padawer, Jayson R. Orvis. All Rights Reserved. Published by Far Cliffs Multimedia, LLC