How Will Debt Settlement Affect Your Credit

How Will Debt Settlement Affect Your Credit

Written by Caitlin Wood
Last Updated November 3, 2021

Sometimes when people are in deep consumer debt, they frequently resort to drastic measures, such as bankruptcy. Unfortunately, this is often the case simply because they are not informed enough about the other solutions and options available to them. Keep in mind that in certain situations, people have so much debt that they must resort to bankruptcy as their only solution. If this is not the case for you then there are other options you must consider first.

This being said, it is extremely important to remember that you’ll want to choose the option that is both the best choice for you and that will affect your credit score the least. Bankruptcy is actually the most damaging debt solution to your credit score. Therefore it’s a smart choice to evaluate all the debt solutions available to you and how they will specifically affect your credit.

Of course not all debt solutions are created equally, and each comes with varying degrees of damage to your credit score. If bankruptcy has the most negative effect on your credit score, then on the other side would be credit counselling, with a far less damaging outcome to your credit score. But when credit counselling is quite enough to help you conquer your debts, there is debt settlement.

debt management options

What is a Debt Settlement?

Put simply, the goal of a debt settlement program is to help you settle your debt for less than what you actually owe. This option is most desirable for those with a debt greater than $10,000 but not great enough to warrant using methods as extreme as a consumer proposal or bankruptcy. Enlisting the help of a professional is a good way to figure out whether or not debt settlement is your best option.

When deciding whether or not debt settlement is the best option for you, keep in mind that you’ll need to make one lump sum payment to your creditors. In general, a debt settlement involves you or your debt settlement company negotiating an offer that will allow you to settle your debts for less than what you owe. For example, if you owe $10,000, your creditor may accept a debt settlement offer that lets you off the hook if you pay $7,000 upfront. Installment payments aren’t typically an option; therefore it’s advantageous for you to start saving as soon as possible.

The goal of a Debt Settlement

What you want is for your creditor to write off a high amount when settling your debt. Because this high write-off from your creditor is very important, it is always a good idea to have a professional debt settlement provider negotiate on your behalf, as opposed to doing it yourself. The debt settlement company that you choose to work with will analyze your situation and should provide an offer that satisfies your creditors and yourself.

Debt Settlement and Your Credit Score

If you are or have had trouble making debt payments, then you are very likely aware of the negative impact late payments can have on your finances and debt total. While a debt settlement will not clear your credit report of late payments, it will help prevent you from receiving any more late or missed payments on the debts that you currently have.

A Low Negative Impact

While a debt settlement will lower your credit score, it’s not as bad as not making any payments at all. In fact, letting it go defaulting on your loan usually has more severe effects on your credit than a debt settlement. Moreover, in the long run, your credit score will greatly benefit from debt settlement.

  • Your debt-to-income ratio will lower, which is great for your credit score.
  • You’ll stop adding more and more late payments to your credit report which is also great for your credit score.
  • The sooner you settle your debts the sooner you can start rebuilding your credit score and the sooner you’ll be able to take advantage of other financial products like loans with lower interest rates.

It’s important that you look at debt settlement as a long-term solution that will help you become debt-free now, but that will also allow you to work towards a better financial future.

Frequently Asked Questions

How long will a debt settlement stay on my credit report?

When you settle a debt, the account balance will go down to zero, but there will be a remark that says it was settled for less than the original amount owed. This will stay on your credit report for seven years.

When can I start rebuilding my credit after a debt settlement?

You can start rebuilding your credit right away. Once your debt is settled you don’t have to worry about any late payments dragging your credit down. In general, it can take a year to two years to get your credit back in good standing.

How much can I settle my debts for?

Usually, people aim to settle their debts for as low as 30% of the original amount, but depending on the creditor it can go as high as 50% -70%. Some creditors may even reject the whole offer outright.

Get Help and Get Started

The only way you’ll truly know whether debt settlement is right for you is if you sit down with a specialist to discuss your financial situation and the options available to you. Check out our online application today or speak with one of our debt specialists.

Rating of 4/5 based on 6 votes.

Caitlin is a graduate of Dawson College and Concordia University and has been working in the personal finance industry for over eight years. She believes that education and knowledge are the two most important factors in the creation of healthy financial habits. She also believes that openly discussing money and credit, and the responsibilities that come with them can lead to better decisions and a greater sense of financial security. One of the main ways she’s built good financial habits is by budgeting and tracking her spending through the YNAB budgeting app. She also automates her savings so she never forgets to put aside a portion of her income into her TFSA. She believes investing and passive income is key to earning financial freedom. She also uses her Aeroplan TD credit card to collect Aeroplan points so that she can save money when she travels.

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