Bad Debts and Charge-offs

When a consumer becomes severely delinquent on a debt (often at the point of six months without payment), the creditor may declare the debt to be a charge-off. It will then be listed as such on the debtor's credit bureau reports (Equifax lists "R9" in the "Status" column.) It is one of the worst possible items to have on your file. The item will include relevant dates and the amount of the bad debt.

A charge-off is considered to be "written off as uncollectable." A major reason for this involves taxes. Every year, corporations file a Profit And Loss Statement with the Internal Revenue Service. It is also made available to federal and state regulators, and to shareholders. All of the year's bad debts (individual charged-off accounts) are added together as an item in the "Loss" section of the P & L Statement and are deducted from the corporation's tax return, much like other business expenses. To banks, bad debts and even fraud are simply part of the cost of doing business.

However, the debt is still legally valid, and the creditor can attempt to collect the full amount. This includes contacts from internal collections staff, or more likely, an outside collection agency. If the amount is large (generally over $1500 - $2000), there is the possibility of a lawsuit.

Paying an old charge-off will not remove it from your credit reports. It will simply be updated to a "Paid Charge-Off," which, while slightly better, is still a seriously derogatory item.

As per the Fair Credit Reporting Act, a charge-off, whether paid or not, can remain on a consumer's credit reports for up to seven years. The time limit is based on the date of the original delinquency (i.e. when the debtor missed a payment and never again became current), not the date of the last activity. Thus, post-charge-off payments should not "re-start the clock." See our article on Bad Credit Time Limits for details.

Some debtors may be able to negotiate with the creditor to have the item removed from the consumer's credit reports in exchange for partial or full payment. This must be done directly with the creditor, not with an outside collection agency. The chances of success may depend on the amount of the debt and settlement offered, the age of the item, and the particular creditor's policies. If you attempt this, do everything in writing (keeping copies), and be sure that the individual you are dealing with has the authority to grant your request. Remember that your payment is your leverage, and get a clear, valid, written agreement before you pay. If you have already paid without a written agreement, then the creditor will have no motivation to do you any favors.

If you have any charge-offs on your credit reports, your ability to obtain credit will be seriously impaired, and you must actively work to rehabilitate your credit.