Charged-Off Debt: What It Means & Should You Pay It?

You may be responsible for paying a debt that has been charged off.

What Is a Charged-Off Debt?

The term “charge off” means that the original creditor has given up on being repaid according to the original terms of the loan.

Many people confuse a charge-off with the debt being forgiven. If your debt has been forgiven, you do not have to repay it. However, a charge-off means the creditor has written the debt off and transferred it to another collection firm to collect on.

How a Charged-Off Debt Works

A charged-off debt occurs when a creditor decides that a debt is unlikely to be collected and writes it off as a loss. Here’s how it works:

1. Delinquency: When a borrower fails to make payments on a debt for a certain period, the debt becomes delinquent. Usually, delinquency occurs after about six months. The creditor will attempt to collect the debt during this period.
2. Charge-off: If the debt remains unpaid after the delinquency period, the creditor may charge off the debt. This means they remove it from their books as an asset, acknowledging that they’re unlikely to collect the owed amount. It’s important to note that the borrower still owes the debt even after it is charged off.
3. Credit report impact: A charge-off is reported to credit bureaus and appears on the borrower’s credit report. This negatively affects the borrower’s credit score and can remain on the credit report for up to seven years from the date of the first missed payment.
4. Collection efforts: After charging off the debt, the creditor may continue to attempt collection. Often, the creditor will sell the debt to a collection agency for a fraction of its value. The collection agency then attempts to collect the full amount from the borrower.
5. Borrower’s responsibility: The borrower remains legally obligated to repay the charged-off debt. If the debt is sold to a collection agency, the borrower will have to deal with the agency to resolve the debt.
6. Potential legal action: If the debt remains unpaid, the creditor or collection agency may sue the borrower to obtain a judgment.

Consequences of Charge-Offs

Having a charged-off debt can have several significant consequences:

• Credit score impact: A charge-off is one of the most negative items that can appear on your credit report. It can significantly lower your credit score, making it harder to obtain new credit, loans, or favorable interest rates. The charge-off stays on your credit report for up to seven years from the date of the first missed payment.
• Collection efforts: Even after a debt is charged off, the creditor or a collection agency may continue to pursue repayment. This can include frequent calls, letters, and other forms of contact.
• Legal action: If the debt remains unpaid, the creditor or collection agency may sue you to obtain a judgment. If they win, they could potentially garnish your wages or levy your bank account.
• Increased debt: The original amount owed can increase due to interest, late fees, and collection costs. This means you could end up owing significantly more than the original debt amount.
• Difficulty obtaining new credit: Lenders view charged-off debts as a sign of high risk. As a result, you may find it difficult to obtain new credit cards, loans, or even rent an apartment. If you do qualify for new credit, you may face higher interest rates and less favorable terms.

Charge-Off vs. Cancellation of Debt

A charge-off occurs when a creditor deems a debt unlikely to be collected after a prolonged period of non-payment. The creditor writes off the debt as a loss in their accounting books. However, the borrower still remains responsible for the debt. The charge-off is reported to credit bureaus, negatively affecting the borrower’s credit score and making future credit applications more difficult. Even after a charge-off, creditors or collection agencies may continue to pursue repayment, and the borrower may face additional legal actions.

Cancellation of debt, on the other hand, happens when a creditor forgives or cancels the entire outstanding debt, absolving the borrower from the obligation to repay. This can occur through debt settlement, loan modification, or bankruptcy. While cancellation of debt relieves the borrower from repaying, it may have tax implications. The IRS generally considers canceled debt as taxable income, and the borrower may need to report the forgiven amount on their tax return. Unlike a charge-off, where the borrower remains liable for the debt, a cancellation effectively ends the borrower’s obligation to pay.

Should You Pay Off Charged-Off Accounts?

Paying off charged-off accounts can be a good idea, but it depends on your financial situation and goals. Some of the benefits of paying off a charged-off debt include:

1. Improvement to your credit score: While the charge-off will remain on your credit report for seven years, having a paid charge-off is viewed more favorably than an unpaid one. This can be particularly important if you’re planning to apply for new credit or a loan in the future.
2. Avoiding legal action: Paying off the debt can prevent the creditor or collection agency from suing you to recover the debt. A lawsuit could result in a judgment against you, leading to wage garnishments or bank account levies, which can further harm your financial stability.
3. Peace of mind: Paying off the debt can provide relief from the stress and anxiety of dealing with collection calls and potential legal threats. It can also help you regain control of your finances and move towards financial recovery.

That said, there may be alternatives to handling a charge-off besides paying it.

How to Resolve Charged-Off Debt

Resolving charged-off debt involves several steps aimed at settling the debt and mitigating its impact on your credit. Here’s a guide to help you navigate this process:

1. Contact the creditor: Reach out to the original creditor to discuss your options. Sometimes, they may still own the debt and be willing to negotiate a payment plan or settlement directly with you. If the debt has been sold to a collection agency, you will need to deal with the agency instead.
2. Negotiate a settlement: If you can’t pay the full amount owed, try negotiating a settlement. Creditors and collection agencies often accept less than the full amount to close the account.
3. Create a payment plan: If a lump-sum settlement is not feasible, negotiate a payment plan. Ensure that the terms are manageable within your budget.
4. Get everything in writing: Always request written confirmation of any agreement, whether it’s a settlement or a payment plan. This documentation is crucial in case of any future disputes.
5. Make payments: Once an agreement is reached, make your payments as agreed. Keep records of all payments made.
6. Follow up with credit bureaus: After settling the debt, check your credit report to ensure that it reflects the paid or settled status accurately. If there are any errors, dispute them with the credit bureaus, providing the written agreement and proof of payment as evidence.

If your debt has been charged off, you do owe the balance and there can be serious consequences if it goes unpaid, such as a frozen bank account or wage garnishment. If you are unsure if your debt has been forgiven or charged off contact a professional who can assist you in locating this information.