What Does a Charge-Off Do to Your Credit?
Unpack the reality of a charge-off and its profound effect on your credit profile. Understand its nature and strategies for mitigation.
A charge-off represents a declaration by a creditor that a debt is unlikely to be collected. This accounting action typically occurs after a consumer has failed to make payments for an extended period, signaling a significant delinquency on the account. While a charge-off denotes a loss for the creditor, it does not absolve the borrower of their legal obligation to repay the debt.
Understanding a Charge-Off
A charge-off is an internal accounting procedure where a creditor formally writes off a debt as a loss on their financial statements. This typically happens after a prolonged period of non-payment, often ranging from 120 to 180 days past due, depending on the type of account and creditor policies.
Despite being written off, the borrower remains legally responsible for the full amount of the debt. The charge-off simply moves the account from the creditor’s active receivables to a “bad debt” category. The creditor still retains the right to pursue collection, either directly or by selling the debt to a third-party collection agency.
Common types of accounts that frequently lead to charge-offs include credit cards, personal loans, and other forms of unsecured debt. When a debt is charged off, it signifies that the original lender has exhausted its typical collection efforts without success. Even if the debt is sold, the borrower’s obligation transfers to the new owner of the debt.
Impact on Credit Scores
A charge-off is considered one of the most severe negative marks that can appear on a credit report, leading to a substantial drop in a consumer’s credit score. This significant impact stems from how credit scoring models, such as FICO and VantageScore, weigh various factors. Payment history is the most influential component, accounting for 35% of a FICO Score and 40% of a VantageScore.
Each missed payment, especially those 30 days or more past due, can significantly lower a credit score, with the damage worsening as delinquency continues. Beyond payment history, a charged-off revolving account can also negatively impact credit utilization, which accounts for up to 30% of a FICO Score. If the charged-off amount increases the total debt relative to available credit, it further harms the score. The presence of a charge-off makes it considerably more difficult to obtain new credit, secure favorable interest rates on loans, or even qualify for certain services like renting an apartment or obtaining insurance.
Charge-Offs on Your Credit Report
A charged-off account will be reported to the three major credit bureaus: Equifax, Experian, and TransUnion. It appears as a derogatory mark, indicating the account’s status as “charged off” or “written off.” The credit report typically displays details such as the original creditor’s name, the account number, the date the account was charged off, and the original balance.
A charge-off remains on a consumer’s credit report for seven years. This seven-year period begins from the date of the original delinquency that led to the charge-off, not from the date the account was actually charged off.
Even if the charged-off debt is paid in full or settled for a lesser amount, the entry itself does not get removed from the credit report before the seven-year mark. Instead, its status will be updated to reflect “paid charge-off” or “settled.” While an updated status may be viewed more favorably by some lenders, the negative history of the charge-off still remains visible for the full reporting period.
Addressing a Charge-Off
Upon discovering a charge-off on your credit report, the first step involves obtaining copies of your credit reports from all three major bureaus to verify accuracy. Consumers are entitled to a free report from each bureau annually through AnnualCreditReport.com. Carefully review the charge-off entry for details such as the account number, the date of last payment, the charge-off amount, and the charge-off date.
If any information appears inaccurate, you have the right to dispute the entry with the credit bureaus directly. This involves submitting a dispute letter that clearly explains the error and includes any supporting documentation. The credit bureaus are obligated to investigate disputed information and correct or remove any inaccuracies.
To resolve the debt, contact the original creditor or the collection agency if the debt was sold. You can discuss options such as paying the full amount, negotiating a settlement for a lower sum, or establishing a payment plan. If you reach an agreement, ensure all terms are confirmed in writing before making any payments. A written agreement provides proof of resolution and details how the account will be reported.