Dealing with Charge-offs

Dealing With Charge-Offs

What is a charge-off? How does a charge-off affect my credit score? Should I settle a charge-off on my credit report? All important questions when it comes to repairing your credit score. A "charge-off" is simply an accounting term whereby the creditor now classifies your debt no longer as an asset to their company, but as an uncollectible liability. This means they are going to remove it from their "books" and consider it a loss that can later absorb.

Lenders and credit card companies report up to 1% of their loans as chargeoffs and consider it the price of doing business. While reporting the debt as a chargeoff does not release the borrower from the debt, it gives the lender a opportunity to report it as a loss for their corporate tax purposes.

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What does having a charge-off on your credit report mean?

Other than a bankruptcy or foreclosure, a charge-off is sure way of getting your credit score to plunge. Remember, correct negative information can remain on your credit report for seven years. Therefore, should you pay a charge-off on your credit report? If your about to refinance or make a large purchase on credit, and if you can afford to pay the debt, you probably should do so. You should also know that paying off a charge-off will typically not get it removed from your credit report.

Your credit report will still show the charge-off either as settled in full or settled for a lesser amount if you make a partial agreement to satisfy the debt. Rarely you can negotiate with the original creditor( get it in writing) and be lucky enough to have the charge-off removed if you pay the debt in full. It’s hard to do this so best of luck. If you are not in the market for borrowing money or credit in the near future, and the charge off is older than 5 years, consider waiting it out. When it comes to bad credit, time is on your side. After seven years, you can have the charge off removed as if it never happened.

Having a debt classified as a charge-off does not remove liability for the debt. Typically, the original creditor may hire a collection agency to settle the debt. If you settle the debt for less than the original amount owed, a new problem for you might arise.

If the difference from the amount settled and the original amount is more than $600.00, the creditor may report the forgiven portion of the debt to the IRS by issuing what is called a "1099 Form". A copy of this is sent to the IRS and to the borrower. What this means is that, if you are a individual, you must include the canceled amount on the "Other Income" line of your Form 1040 when you prepare your taxes for the year the debt is forgiven. Failure to do so may subject you to a IRS audit. Depending on your individual circumstances, this may cause a bump in the amount of taxes you pay for that year.

You should know that some cancelled debts are not includible in your income, such as certain student loans, qualified farm debt or debts cancelled in bankruptcy. Some debts forgiven for Katrina victims assistance are not includable as well.

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