How Does a Collection Impact Your Credit Score?

How Does a Collection Impact Your Credit Score?

by | Oct 12, 2023

When you discover a collection account on your credit report, it’s natural to feel a little anxious. It’s a term you might have heard but perhaps haven’t encountered. How did it get there? What impact will it have on your future financial choices? In this article we explain collection accounts, how they affect your credit score, and how to deal with them.

What Is a Collection Account?

In simple terms, a collection account is a debt you haven’t paid, handed over to a third party to collect. Originally, you owe money to a creditor. Maybe it’s for an unpaid medical bill, a credit card, or a utility bill. When you fail to make the required payments, the original creditor might sell or assign your unpaid debt to a debt collector. This creates a collection account.

The types of debts that can lead to a collection account are varied. They can include:

  • Medical Bills: Unpaid hospital or doctor’s bills more than $500.
  • Credit Card Balances: Overdue amounts on your credit card.
  • Loans: Personal or payday loans you haven’t paid back.
  • Utilities: Outstanding electric, water, or gas bills.

A collection account sends a red flag to potential lenders, warning them you have had difficulty paying off debts. Collection agencies can also contact you at work or home to recover the debt, adding stress to an already troubling situation.

The good news is that, as of Jan. 1 of this year, medical collections under $500 are no longer reported to the major credit bureaus thanks to the No Surprises Act passed by Congress.

How Collections Impact Your Credit Score

When a collection account shows up on your report, you can expect a hit to your credit score. How much it can drop varies, but the effects on your credit can be lasting. Your credit score is a numerical representation of your financial trustworthiness. Lenders, landlords, and even employers look at this number to gauge how reliable you are when it comes to managing money.

To get a sense of the potential impact, you can use the FICO® Score Simulator offered by MyScoreIQ credit monitoring services. This can give you an estimate of how many points you stand to lose, allowing you to prepare for what’s to come.

Here’s what you can generally expect when a collection account enters the picture:

  • Lower Credit Score: Your credit score will go down. A lower score makes it harder to get loans, credit cards, or even a lease for an apartment.
  • Prolonged Impact: Unlike other financial missteps, a collection account can linger on your report for up to seven years. This means a long-term setback for your financial health.
  • Variability: Different kinds of debts have different effects. A collection on medical bills may not be as damaging as one stemming from card debt, but any collection is bad news.

Dealing With Collection Accounts

Finding a collection account on your credit report can be a jarring experience, but there are ways to help deal with it. Your plan of action will depend on several factors, such as the age of the debt and your current financial situation. Here are some strategies to consider:

  • Pay Off the Debt: The most straightforward way to remove the collection account is by paying it off. This doesn’t erase the entry but shows it’s been dealt with, which lenders might see in a more favorable light.
  • Negotiate With the Collection Agency; Sometimes, you can negotiate to pay less than the full amount owed, known as a “settlement.” Always get any agreement in writing.
  • Dispute Inaccuracies: If you find inaccuracies, dispute them Incorrect information can be removed, which can aid in the improvement of your credit score.

Keep track of all your communications with the collector and the original creditor for your records. You may need these details if you dispute the account in collection or for legal reasons.

One thing to avoid is ignoring the collection account. Doing so can lead to wage garnishments or even a lawsuit.

How Long Do Collections Stay on Your Credit Report?

The answer varies but usually, such an account can remain on your credit report for seven years. This starts from the date of the first missed payment that led to the account being sent to collections.

Let’s explore three essential facts about the reporting period for collections:

  • Statute of Limitations: This is the legal time frame within which a debt collector can sue you for the debt. It’s different from the reporting period and varies by state and type of debt. Knowing the statute of limitations can help you understand your rights.
  • Collections Aging Off: After seven years, a collection account should automatically fall off your credit report. If it doesn’t, you have the right to dispute it.
  • Impact Decreases Over Time: As the collection account gets older, its effect on your credit score can lessen, even if it doesn’t completely disappear.

Don’t confuse the statute of limitations with the length of time an account in collection will stay on your credit report. Even if the statute of limitations has expired, the entry can remain, affecting your ability to get new credit, rent an apartment, or even secure a job.

Be aware of how collection agencies and their reporting practices can have a lasting impact on your credit. Whether you pay off collections debt or wait for it to age off your report, understanding these timelines can help you make informed decisions for a healthier financial future.

Rebuilding Your Credit After Collections

You’ve settled your collection accounts. Now what? Rebuilding your credit score after collections is the next best move.

Here are some straightforward ways to get started:

  • Get a secured credit card to show you can manage debt responsibly. You give a deposit as collateral and then use the card for small, manageable purchases. Pay the full balance every month.
  • Make sure to pay all your bills on time, every time. Late payments affect your credit scores.
  • Use no more than 30% of the credit you have available. Lenders might be wary of people who use a lot of their credit.
  • Use MyScoreIQ services to help monitor your credit score.

By following these steps, you can not only help improve your credit score but also show potential lenders you’ve turned over a new leaf. It might take a while, but the benefits are worth it. It opens doors to better interest rates, more favorable loan terms, and peace of mind, knowing you’re on the right financial path.

Frequently Asked Questions

Can I remove a collection from my credit report?

Yes, you can remove a collection account from your credit report, but it’s not easy. If the account is inaccurate, you can dispute it with the credit bureau. Successful disputes can lead to the removal of the collection report. Alternatively, you might negotiate a “pay-for-delete” agreement with the debt collector, though such agreements are rare and not all agencies agree to them. Use the Fair Debt Collection Practices Act as your guide during these negotiations.

How can I prevent collections from affecting my credit?

To avoid the adverse effects on your credit, tackle the issue head-on. Respond to the creditor or collector as soon as you’re contacted. Create a payment plan or negotiate a settlement. Some people even opt to pay off collections debt in full if they can. And, of course, take steps to ensure all your other bills are paid on time to offset the potential impact.

Do all collections impact your credit score equally?

No, the impact varies. A more recent collection account can harm your credit more than an older one. The amount you owe also matters. A large debt has a more significant impact on your credit score. Moreover, medical collections are often treated a bit differently and may not negatively impact your score as much as other types of debts in collection. Again, as of this year, medical debt collections under $500 are no longer added to credit reports. Always review your credit report to understand how different debts are affecting your credit.

Bottom Line

While collection accounts can dent your credit, the damage isn’t irreversible. Take steps such as negotiating with collectors or tackling the debts in collection directly to initiate recovery. And don’t underestimate the power of planning.

For insights on how these actions could reshape your credit future, turn to MyScoreIQ FICO® Score Simulator. This tool gives you a clear picture of potential credit score changes, helping you make informed decisions.

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