As you go through the credit repair process, there are a lot of things that you have to do. Just about everything you do shares the purpose of improving your credit score. One of the most intuitive things that people think of doing to improve their credit score is pay off old debts and delinquent accounts. What they don’t realize is that taking this intuitive approach can actually do more harm than good.
As you break down the formula for your FICO credit score, you will find that approximately 35% of your score is determined by your credit history. If you have accounts that have been charged off and sent to collection agencies, then the damage has been done. You can’t go back in time and remove the late payments or the history of delinquent accounts from your record. Your credit history is called history for a reason. 30% of your score is determined by what you currently owe. When your account become delinquent or is charged off, it is generally removed from what you currently owe. Paying off these accounts can actually hurt you in this category.
Delinquent Accounts Vs. Collection Accounts
There is sometimes confusion between delinquent and collection accounts. A delinquent account is simply overdue; you have outstanding debt, whereas a collection account is an account that cannot be resolved internally so it is handed over to an external party.
If you have a delinquent account, then paying off the debt will help your credit score improve. This debt is still listed under your current debts, so minimizing the category will increase your score. Unfortunately, the damage that your late payments made has already been done. Unless you go and talk to your creditor (perhaps it was a one-time thing or a fluke and you have otherwise excellent payment history), that delinquency will stay with you for a while.
Paying off a collections account on the other hand can actually hurt your credit score. When a creditor charges off an account, they have written off the debt and do not expect to receive payment of any kind on that account. A collection agency can buy that debt from the creditors and take a shot at trying to collect on the debt. On your credit report, this debt is listed as written off. If you decide to start paying off the debt, the collection agency may report it to the credit bureaus as a new debt instead of a continuation of the written-off debt. They make the debt look like it is newer than it actually is. Collection agencies hurt your credit score when they report your debt like this because new debt has greater weight on your credit score than old debt does.
How to Pay off Old Debt
If you are set on paying off your old debts, focus first on the debts that are still listed with a delinquent status. Fulfillment of these debts will help improve your score. Once these debts are paid, look into your state laws to see how long it takes before a debt is considered to be statute-barred, meaning that it is too old to be collected on. If it is past that time limit, don’t attempt contact because doing so can reinstate the debt. If a debt is well within your state’s time limit, pay off the debt in full in one payment. That way, the debt will be listed as paid in full once it is reopened on your credit report.
Benefits of Paying off a Collections Account
Just because you paying off a collections account has the potential to harm your credit score, that doesn’t mean that you shouldn’t pay it off. There are other benefits to paying off a collections account. A huge relief in paying off collections accounts is having calls from collection agencies stop. Also, if you are looking at taking out a loan for a car or a home in the future, having a paid collections account will look much better than an unpaid. Lenders will still see a lower credit score, but as they actually take a look at your credit report, they will see a greater level of financial responsibility in you than they would if it were unpaid.