December 19th, 2011

From Our Facebook Community: How to Deal with Old Debts

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Credit Karma’s Facebook community members always come up with great credit questions. Sometimes they’re so good, we share the answers here on the Credit Karma blog. This time, the question is about debt, something many of us can relate to.

Question:

facebook question

    When paying things on your credit, I’ve been told to not pay them off completely, all at once. I’m not sure why this is, though. I am in a position to clean up my credit. Do you have any suggestions on what I should do or the process to follow? I’ve heard that if it’s close to seven years for some of the debts, that I should ignore them and let them fall off. Is there any truth to that?

    - DeVonna

Answer:

Congratulations on making this first decision toward credit empowerment. Now that you’re ready to tackle your credit clean-up, let’s talk about how to deal with debt and your credit.

Build your credit with “good debt.”

You may have been told to avoid paying off a debt all at once because that debt could be “good debt.” Good debt typically refers to loans you’ve taken on for significant purchases, such as a home or college education, that you need but can’t afford to pay for up front. This debt typically comes at a lower interest rate than credit card debt, and helps you build your credit. If you have debts like this in good standing on your credit report, continue paying them down. If your goal is to build your credit, it might be smart to avoid paying them off all at once. Your good debt will continue to help you build your credit, while costing you less in interest than credit card debt typically does. Instead of using extra funds to pay down good debt, divert them to additional credit card payments.

If you are repaying credit card debt, you may also want to consider consolidating debts on multiple cards on to a balance transfer card, which makes it easier to manage multiple balances by making just one monthly payment. Also, you may qualify for a balance transfer credit card with a 0% intro APR on balance transfers, which will allow you to work on paying down that debt without incurring additional interest for several months.

Seven Years vs. The Statute of Limitations

If you’re concerned with how to approach paying off older debts, it’s important to understand the differences between the seven-year reporting time limit and the statute of limitations. The Fair Credit Reporting Act (FCRA) states that negative items must be removed from your credit report seven years from the date of delinquency, but there are a few exceptions:

  • Chapter 7 Bankruptcy – This will remain on your report for up to ten years from the date it was filed.
  • Tax liens – If you owe back taxes, the lien will report to the credit bureaus for an indefinite amount of time. For this reason, it’s wise to set up an installment agreement with the IRS to pay off your debts.
  • Federal student loans – If you default on a government-issued student loan, it could remain on your report indefinitely.

If there is a delinquent account on your credit report, it will likely stop reporting after seven years. That means it will also stop damaging your credit score. However, whether or not you’re legally obligated to pay that debt will be dependent upon your state’s statute of limitations.

After the statute of limitations on an old debt has passed, the creditor can no longer sue you in court or file a judgment against you for the debt. This time limit varies by state. Bills.com put together this handy chart showing the statute of limitations for each state.

It’s important to know that, in some states, you may restart the statute of limitations on an old debt by making a partial payment or even simply acknowledging to a debt collector that the debt is yours.

So, which debts should you pay?

Prioritize which debts are most important to pay based on the seven-year reporting guideline and the statute of limitations. In general, follow these tips:

  • For newer debts: Pay on-time and never miss a payment. Keep your new credit history pristine by staying on top of these payments.
  • For a debt older than seven years: First, if it hasn’t fallen off your credit report, contact the credit bureau still reporting the debts to find out why. Then, check the statute of limitations for the debt and your state. If it’s close or even passed, don’t pay on that debt. Your partial payment may restart the statute of limitations, which will put you in danger of being sued.

The Bottom Line: Tackling debt can be tough, so find tools that can help you stay on track. Use ReadyForZero to help you pay down debts, budget new expenses with sites like LearnVest or Mint, and monitor your credit score with Credit Karma.

Have a Karmic day!

Bethy Hardeman, Social Media Maven

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