Does Negotiating Credit Debt Hurt Your Credit Score?

••• Ciaran Griffin/Stockbyte/Getty Images

Negotiating with a creditor to reduce your debt is almost certain to hurt your credit score, because your credit report doesn't just show that you no longer owe that creditor money; it shows that the debt was settled for less than the amount owed. Credit scores are designed to measure the risk of lending money to an individual. If you fail to repay a debt in full, you are by definition a higher credit risk.

Effect on Credit Score

Everyone's credit profile is different, so it's impossible to say how much an individual's credit score is affected by negotiating a debt settlement. In general, the higher the score, the greater the potential for damage. Multiple settlements could amplify the effect, although every situation is different.

Considering the Alternative

Creditors don't usually agree to settle a debt unless you fall behind on your payments. When you fall far behind, creditors are faced with the prospect of collecting nothing at all. Settling a debt hurts your credit score, but so does an account that is unpaid and delinquent. At least when a debt is settled, it is identified on your report as paid.

How Long It Stays on Report

Under the Fair Credit Reporting Act, most negative information can remain on your credit report for seven years, so a settlement today could hurt your score for years to come. The effect of a particular item on a credit score decreases over time, which means your score may rebound as the settlement recedes further into your past. However, as long as it remains on your report, it can be seen by anyone who pulls your credit. If you apply for a loan in the next seven years, the lender may see the settlement and decide you're an unacceptable risk, even if your score has recovered.