How Collections Affect Your Credit Score
Dealing with debt can be stressful, especially when an account goes to collections. Many people are unsure what this means or how it will affect their financial future. When a creditor sends your account to a collection agency, it can have a significant and lasting impact on your credit score, making it harder to get approved for loans, credit cards, or even housing.
This post will explain what happens when an account enters collections, how it affects your credit score, and what you can do to manage the situation. Understanding this process is the first step toward protecting your credit and making informed financial decisions. We will cover the timeline of a collections account, its effect on different credit scoring models, and steps you can take to resolve the debt.
What Are Credit Collections?
When you fail to pay a debt for several months, the original creditor, like a credit card company or a hospital, may decide it's no longer worth their effort to collect the money from you. At this point, they can do one of two things:
- Hire a third-party collection agency: The agency will work on the creditor's behalf to collect the debt.
- Sell the debt to a collection agency: The agency buys the debt for a fraction of its value and then attempts to collect the full amount from you. The agency now owns the debt.
Once your account is in collections, it's reported to the major credit bureaus—Equifax, Experian, and TransUnion. This new "collections account" is then added to your credit report, which is where the damage to your credit score begins.
The Impact of a Collection Account on Your Credit Score
A collection account is a serious negative mark on your credit report. Its precise impact can vary depending on several factors, but it's almost always substantial.
How Much Will Your Score Drop?
The number of points your credit score will drop depends on your existing credit profile. If you have a high credit score and a clean report, a new collection account can cause a significant drop, sometimes as much as 100 points or more. If your score is already low due to other negative items, the drop might be less severe, but it will still hurt your credit.
Your payment history is the most important factor in your credit score, making up 35% of your FICO score. A collection account is a clear indicator of non-payment, which is why it carries so much weight.
Different Scoring Models Treat Collections Differently
Newer credit scoring models, like FICO 9 and VantageScore 3.0 and 4.0, handle collections accounts differently than older versions.
- Paid Collections: FICO 9 and the latest VantageScore models ignore paid collection accounts. This means once you pay off the collection, it will no longer affect your score under these models. However, many lenders still use older FICO versions (like FICO 8), which continue to factor in paid collections.
- Small Balances: FICO 9 also overlooks collection accounts with an original balance of less than $100.
- Medical Collections: Newer scoring models give less weight to unpaid medical collections than other types of debt. This is because medical debt is often unexpected and doesn't necessarily reflect a person's financial irresponsibility.
Even with these changes, it’s important to remember that a collection account, paid or unpaid, remains on your credit report for up to seven years.
How Long Do Collections Stay on Your Credit Report?
A collection account will stay on your credit report for seven years from the date of the first missed payment on the original debt. This is known as the "date of first delinquency."
For example, if you missed a credit card payment in June 2023 and the account eventually went to collections, the seven-year clock started in June 2023. The collection account will be removed from your report in June 2030, regardless of when you paid it or when it was sold to the collection agency.
Paying the collection will not remove it from your credit report sooner (unless you negotiate a "pay-for-delete" agreement, which is rare). However, paying it will change the status to "paid," which looks better to potential lenders than an unpaid collection.
Steps to Take When an Account Goes to Collections
If you've been contacted by a collection agency, don't panic. You have rights under the Fair Debt Collection Practices Act (FDCPA). Here’s what you should do.
1. Verify the Debt
Before you do anything else, verify that the debt is legitimate and that the collection agency has the right to collect it. Within five days of their first contact, the agency must send you a written validation notice detailing the amount you owe, the name of the original creditor, and your right to dispute the debt.
If you don't receive this or you believe there's an error, send a debt validation letter to the agency via certified mail within 30 days. This requires them to provide proof that you owe the money.
2. Check Your Credit Report
Review your credit reports from all three bureaus to see how the collection is being reported. You can get free copies of your reports from AnnualCreditReport.com. Look for any inaccuracies. If you find errors, you can dispute them with the credit bureaus.
3. Decide How to Handle the Debt
Once you've verified the debt, you have a few options:
- Pay in Full: If you can afford it, paying the debt in full is the most straightforward option. The account status will be updated to "paid," which is beneficial for your credit.
- Negotiate a Settlement: Collection agencies often buy debt for pennies on the dollar, so they may be willing to accept a lower amount to settle the debt. If you negotiate a settlement, get the agreement in writing before you make any payment. Be aware that the settled portion of the debt may be considered taxable income.
- Negotiate a "Pay-for-Delete": You can ask the collection agency to agree to remove the collection account from your credit report entirely in exchange for payment. This is the best possible outcome for your credit score, but many agencies refuse to do it. Always get this agreement in writing.
Navigating Credit Collections in Orlando, FL
For businesses and individuals dealing with credit collections in Orlando, FL, the process can feel overwhelming. Understanding both state and federal laws is crucial for managing debt effectively and ethically. Whether you are a business trying to recover unpaid invoices or a consumer trying to resolve a collections account, having expert guidance can make a significant difference.
Take Control of Your Financial Health
A collection account can be a major setback for your credit, but it doesn't have to define your financial future. By understanding how collections work and taking proactive steps to address the debt, you can mitigate the damage and begin the process of rebuilding your credit. Remember to verify the debt, check your credit reports for accuracy, and explore your payment or settlement options.
If you are a business struggling with overdue accounts and need professional assistance with credit collections in Orlando, FL, it's time to call in the experts. HF Holdings Inc specializes in ethical and effective debt recovery solutions. Contact us today to get a free quote and learn how we can help you manage your accounts receivable.