Many times however, I come across students and readers who are not sure of their overall financial goals – even though they are pretty sure of them in the beginning.
Just recently the following question was asked in the Debt Movement Facebook fan page:
Question about debt if I may. Is it better to pay off all old debt to raise your credit score? I was told if you pay off all your old debt it can hurt your credit score because then nothing reports to the credit bureau
I believe all questions on specific paths should be answered according to the planned financial goals of that person asking. Though a great question, part of it insinuates getting out of debt as their goal and another part involves staying in debt as a goal.
Your unintentional goal to stay IN debt
Assuming that a person’s ultimate goal IS to stay in debt, then no, paying off old debt will not hurt your credit score the majority of the time.
FCRA stipulation of 7 years and/or is no longer being reported for some other reason, there can be times when the collection agency or creditor will re-age this account as a new listing on your credit report.
In this case you will need to dispute heavily with both the original creditor and the credit bureau and while citing the FCRA as a reason.
If you’re simply referring to debt that is currently past due in collections, paying off that debt (or making a settlement for a lesser amount) will have no affect at all actually.
Showing that the debt has been satisfied will assist as an addition to your low FICO score when applying for loans because many lenders do not want to see collection accounts that have not been taken care of on your report.
But your score will still take into account that you have a seriously negative/derogatory item – paid or unpaid. Only time can “improve” that situation. And remember, removing accurate negative items from your credit report is a federal crime.
Next, if the debt you’re attempting to paying off is simply debt that is current yet you have been paying interest on it since Bush was in office, it will actually increase your score over time.
This is because your credit utilization ratio will have been improved.
Your intended goal to stay OUT of debt
…will allow you financial freedom.
Now if your goal is to get out of debt, stay out of debt and no longer pimp your delicate income out to interest payments on the other hand, your aim should be to never worry about a credit score.
It’s your cash and credit REPORT that is important to be financially stress free and to build wealth in this scenario. There is nothing you will need a credit score for that is beneficial to you other than getting back INTO debt.
When you are truly on a debt free journey and you begin living within your means, you will no longer be borrowing money. This sooner or later will cause your credit score to drop substantially.
And not being able to obtain credit could be the very best thing that has ever happened to you financially.
For instance, if you notice, you will hear a lot of people tell you (untruthfully) that they pay off their credit cards every month when in fact 1 out of every two people you hear say that doesn’t.
And the ones that do carry revolving balances pay for the reward points of those who don’t. It is the necessary cycle of the credit card industry for if everyone paid their balances off and weren’t sinking in debt, there would not be a single credit card in circulation. (This is even more dramatic if you are Black or Latino with a credit card account.)
These are the same people who are stuck in a debt cycle forcing them to believe they can’t live without credit. Sure they are getting 4.5% interest rates on car loans but every month they have a car loan to play in the first place. This does not have to be you. So in summary:
- Goal A: Stay in debt. Pay off your old debt and it will either help your credit report or change your debt utilization ratio thus increasing your FICO score over time.
- Goal B: Get out of debt and stay out of debt. Pay off your debt regardless of what a credit score will indicate, live within your means, invest your money and live a wealthy life.
All lanes point toward paying your debt, however, which ultimately is the essence of The Debt Movement.
Oh and one caveat: paying off debt that is delinquent and outside of your state’s Statute of Limitations for that type of debt, is essentially a donation. You are no longer legally liable for this debt, however, pay it under your own moral obligation.
About the Author:
Jarim Person-Lynn, Author of Brass Knuckle Finance, Financial Activist and Wealth Coach. Jarim Person-Lynn knows all too well how the trappings of debt and poverty can derail the dreams of the inner city youth. Growing up submerged in the flashy L.A. culture throughout the late 90s/early 2000s, he was taught to buy first then think about how to pay for it later. Ultimately he found himself working day and night to pay off someone else’s life.
After a few false starts and partial escapes from old ways of thinking, Jarim got completely fed up with his situation in 2009 and vowed to eliminate the cycle of poverty and the “Keeping up with the Joneses” status quo that had tried to claim him and so many people he knew in his community.