Bills or loans that are non-recoverable or where there’s no chance of being repaid are usually considered “bad debt”. If you have one or more bad debts, then you’ll probably see a significant, negative impact on your credit score. This may hurt your future prospects of applying for further loans and financial products.
Kinds of debt
All the credit rating agencies put different amount of weight to different kinds of debt. They are actually responsible for tabulating all borrowing profiles of individuals like you. Basically, a credit score is a numerical value related to the kinds of credit for which you’ve been extended and, your punctuality in paying off those back in accordance to the terms and conditions of the creditor or financial institution.
As of now, there is no particular standard or formula to calculate exactly how much a specific bad debt will or can hurt your credit rating. Normally, the higher the outstanding loan amount, the greater will be its negative impact on your credit score.
Effects of debt on your credit score
Say, for instance, you’ve got a bad debt at a dentist’s office in the amount of about $110 and another bad debt at a vehicle leasing company of $22,000. In this case, the higher-valued debt will leave a greater impact on your credit rating as compared to the lower debt amount.
Both creditors and credit reporting agencies don’t consider all bad debts as equal. There are certain bad debts that are regarded as partial debts. For this kind of credit, consumers often make an agreement with their creditors to repay a part of the total borrowed money in return for a forgiveness of the remaining loan balance owed to them.
At times, such a procedure of loan forgiveness is called a “charge-off”. For example, you may consider that you owe a total balance amount of $23,000 on your credit cards. If you’re regularly delinquent in making the monthly repayments or you stop making any payment altogether, then your creditor may offer you with an alternative to pay off less than the actual amount owed in a single lump sum payment.
If you accept your creditor’s offer and settle to pay off $14,000 of the balance owed, then your creditors may agree to charge off the remaining loan balance amount and so, you’ll no longer be held liable to make the additional repayments. The remaining $9,000 loan balance will be considered as bad debt (or unrecoverable debt) on behalf of your creditor. This bad debt will be reported to the credit reporting agencies as such.
Generally, loan repayments of this kind also have a clause that says the debt was settled for less than the actual amount owed. Although this would have a negative impact on your credit score, it is far better than having the entire loan amount be reported as bad debt on your credit report.
Finally, if you want to resurrect your credit rating and are looking for ways to improve your credit score, then you’ll have to work on building a positive credit history. For that to happen, you’ll have to make timely loan repayments, avoid using your credit cards irresponsibly, build up an emergency fund, apply for fewer loans (resulting in hard inquiries) and so on.
There are many online personal finance forums where you can participate and find out more about how to build up your credit score. One such social media platform is OVLG Google+ page , where you can ask financial experts questions related to debt and other credit related issues.