What Is a Charge-Off?
A charge-off refers to a debt that the lender doesn’t expect to be repaid. Charge-offs are bad news for banks and financial institutions. A charge-off can lower a lender’s profitability and, in the event of default by a sufficiently large number of borrowers, even threaten its existence. If you ask yourself, what is a charge-off as far as an individual borrower is concerned, the implications are equally, if not more, severe.
A charge-off of an amount advanced to you by a credit card company, or a bank could damage your credit score and remain on your record for years.
In this post, we’ll examine what a charge-off and the conditions which can give rise to one is. We’ll also analyze the consequences of a charge-off, the best ways to tackle the damage they can do to individuals and small business owners, and how to avoid one.
How long does a charge off stay on your credit report?
A charge-off can stay in your credit report for up to 7 years.
In What Situations Can a Charge-off Happen?
If a borrower falls behind in making repayments, it could result in a charge-off by the lender. Installment loans on assets like cars are charged off after 120 days of delinquency. For credit card debt, the period is slightly longer. If payment is not made for 180 days, the credit card issuer will charge-off the debt.
What are the different circumstances in which a charge-off can be triggered? If you borrow money and don’t repay it for an extended period, the lender will ultimately consider the advance as uncollectible. This will result in a charge-off.
The unpaid debts that could result in a charge-off include:
- Credit card debt
- The amount borrowed for buying a car or some other asset
- Small business loans
- Unpaid mortgage debt
- Other debts, like personal loans
Big banks and credit card issuers charge-off credit card debt regularly. This chart from the Federal Reserve Bank of St. Louis, one of the 12 reserve banks within the U.S. federal reserve system, illustrates how the charge-off rate of credit card loans fluctuates.
Charge-Off Rate on Credit Card Loans for All Commercial Banks
The chart shows that in the second quarter of 2019, the charge-off rate for credit card debt for the commercial banks in the U.S. was 3.74%. This indicates that the write off (another name for a charge-off) that the banks made was as much as 3.74% of all the money that they had advanced against the credit cards issued by them. In 2010, the write off rate had peaked at almost 11%.
What does this mean? If you owe funds to the bank for the amount you have spent on your credit card, and it’s charged off, does that mean you don’t have to pay? Are there any other implications for a charge-off? Let’s examine this issue in the next section.
How bad is a charge off on your credit? The consequences of a Charge-off
There can be severe repercussions to a charge-off. Although the financial institution acknowledges that it would be difficult to collect the debt in question, a charge-off does not imply that the consumer need not pay. In other words, there is no connection between a debtor’s obligation to the bank and the fact that the account has been charged off.
That’s not all. There are other consequences, as well:
A negative impact on your credit score
This is possibly the most serious implication. Your credit score will fall when the lender reports the charge-off. How much will it fall by? That depends, but the drop can be significant. Remember that the lender would already have reported that you were making late payments. This would have hurt your record. When your account is finally charged off, it will result in further harm to your credit score.
The charge-off will continue to appear on your credit report for seven years
That’s a long time, but unfortunately, there’s very little you can do about it. Of course, if the credit bureau or the lender has made an error, you can raise a dispute.
The lender could sell the debt to a third party
The bank may try to recover some of its money by selling the debt to a collection agency. So, a representative who does not work for the financial institution which you have borrowed from may contact you to pay.
Paying the debt may not solve the problem
When you are addressing the question of what is a charge-off and how you can avoid its negative implications, this point may seem confusing. After all, the bank should be satisfied if you pay off the debt. It’s logical to assume that if you do this, the charge-off should be removed from your credit report. Unfortunately, that’s not how it works. After you pay, the credit report will say “charge-off paid” or “charge-off settled” (if you have settled for a lower amount than was originally due.) This will remain on the credit report for seven years.
How Can I Remove a Charge-off from My Credit Report?
What is a charge-off in terms of its impact on your ability to raise a loan? Regrettably, having this item on your credit report is a big negative.
According to the credit reporting company, Experian:
“A charge-off is considered a derogatory entry on your credit file—a serious negative event—and it can adversely affect your credit scores and your ability to borrow additional funds.”
If the charge-off appears on your credit report, you can find it challenging to raise a loan. Even if a lender is willing to advance funds, you’ll probably have to pay a high rate of interest.
You should do your best to have the charge-off removed as early as you can. Here’s a step-by-step guide to help you do this:
- Offer to pay – try and convince the lender to remove the charge-off from your credit report by offering to pay. But don’t pay immediately. First, get the lender to agree to remove the charge-off from your credit report. Use a pay-for-delete letter for this purpose.
- The lender should provide a written approval – don’t rely on a verbal assurance from the bank’s or the collection agency’s representative. You must insist on a written agreement. This document will help you to ensure that the charge-off is removed from your credit report.
- Don’t lose hope if you have inadequate funds – a shortage of cash shouldn’t stop you from offering to pay. You can always ask the lender to settle for a lower amount than you owe. The bank may be willing to do this, especially if the debt is outstanding for a long time, and they had given up hope of making any recovery.
Tips to Avoid a Charge-off as a Borrower
Removing a charge-off from your credit report can be difficult. Although there’s no harm in trying, there is a strong possibility you may not succeed. It’s far better to avoid getting a charge-off recorded on your credit report in the first place.
To avoid this derogatory entry in your credit report, you must understand what a charge-off is. It is essentially the result of what happens when you don’t pay your debt on time.
Every small business owner must resolve to meet the payment commitments that have been provided to lenders. Taking on too much debt can be risky. If you have already gone down this path, it may be advisable to devise strategies to pay off debt quickly. Calculate your debt to income ratio and arrive at the ideal debt level for your company.
If you are already overextended and have taken on too much debt, consider a debt consolidation loan to get out of the predicament you find yourself in. You can use a business loan as a debt consolidation loan.
When you are considering what a charge-off is, you should realize that repeated failure to pay lenders may finally result in a situation where you have to file for bankruptcy. That’s something you should avoid if you can. Filing for bankruptcy should only be considered as a last resort. It’s a step you should take when you entirely run out of options to repay your creditors.
Should I pay charged-off accounts?
In short: yes, you should pay charged-off accounts.
If you do, you will improve your credit, reduce your total debt, raise your lending odds, and owe less taxes.
Camino Financial Business Loans: What Do We Do So That a charge-off Is out of Scope
There’s another way to avoid ever having to ask yourself the question, “what is a charge-off?” When you need funds for your business, contact us at Camino Financial. We provide small business loans for amounts up to $400,000 with flexible requirements and added benefits over other forms of financing.
How can a loan from us prevent a charge-off on your credit report?
Our business loan specialists are trained to assess your repayment capacity. They will work with you to understand your need for funds and arrive at a plan that can provide the money you need at the lowest possible cost. Our motto, “No business left behind,” ensures that every eligible business will get the cash it needs.
Here are some features of Camino Financial small business loans:
- No hidden fees
- No collateral required
- Fixed interest rates and monthly payments
- Flexible loan payback period ranging from 24 to 60 months
- A one-time origination fee of 5%
We’ll ensure that you don’t borrow more than you can afford. Consequently, repayments will not put a strain on your finances. You’ll never have to ask yourself, “what is a charge-off?”
The Bottom Line
Now that you know what a charge-off is, you should do your best to avoid getting this negative remark on your credit report. Borrowing from Camino Financial can help. We’ll work with you to provide precisely the right amount of money – enough to meet your needs but not so much that you’ll have a problem in making repayments.
Take the first step by using our business loan calculator to estimate your monthly payments and loan cost.