Understanding FICO Scores - Amounts Owed

Having credit card accounts and having balances on them does not necessarily make you a high-risk borrower. However, when a high percentage of available credit is used up the FICO score can be adversely effected. The general rule is to try to keep your balances under 30% of the total available limit of a credit card. For example, if one had a card with a 10K limit, a good idea would be keeping the balance under 3K. The amount owed on all accounts plays an important part in the scoring as well. Even when one pays their accounts off in full each month, the credit report usually reports the total balance shown on the last statement. The amount owed on all accounts and on different types of accounts is also a factor. Sometimes having a small balance on a card and managing it responsibly can have a stronger positive impact on a credit score then just closing out an account. If a large number of accounts are carrying balances, this could give the perception to a creditor that an individual is over-extended. Paying down mortgages and installment loans play a very important role in terms of credit scoring. The main idea here to understand is that having balances is not in itself a bad thing, but as one gets closer to the limit on the credit lines the scores tend to go down

Understanding FICO Scores - Payment History

35% of your credit score will be based on your credit payment history. One of the most important factors a creditor will want to know is if you have paid your past credit accounts on time. It should be noted that if you have late payments in your payment history it does not automatically ruin a credit score.

An overall good picture can outweigh one or two late payments.

Remember when discussing payment history we are including more then just unsecured credit card accounts. Payment history would include car payments, mortgage payments, installment loans, etc.

Certain items that would be considered fairly serious would include public records, bankruptcies, foreclosures, wage attachments, judgments, child support payments, and collection accounts.

The specific details of when an account was late makes a large difference. For example an account 60 days late 2 years ago might not be as damaging as a mortgage payment that was late last month.

Often times it is possible to improve a credit report by having old and inaccurate items removed. We will talk about credit reports in future installments.

Understanding FICO Scores

As creditors become more and more particular about a consumer's credit history, it is very important to understand how a FICO score is calculated.
A FICO score is the the scoring system that a credit score is based on. Over the next few installments, I will go into each part of how a FICO score is calculated and ways to improve that particular area of the score.

Solutions to Consumer Debt - Bankruptcy

Bankruptcy should be the last alternative when trying to resolve credit and debt issues. Bankruptcy is the process where an individuals debt is either eliminated or reduced under supervision of the court. Pre-bankruptcy credit counseling (before filing) and post-filing debtors education are now mandatory requirements to the bankruptcy process. There are two main types of bankruptcy that are generally available to a consumers; Chapter 7 and Chapter 13.

Chapter 7 is a straight liquidation of one's debt. This is where all creditor debts are discharged through the bankruptcy. A chapter 7 bankruptcy is a process where the consumer petitions the court to take all assets unprotected by law or non-exempt to pay off one's debt. If the debt exceeds the assets the debts are forgiven. The idea here is to provide the consumer a clean slate to move forward and learn from past financial mistakes. Please note; Federal student loans, child support payments, alimony, and back taxes my not be discharged. Chapter 7 bankruptcy is reported on a consumer credit report for a period of 10 years.

Chapter 13 bankruptcy is often referred to as a wage earner plan. With this plan, debts are restructured by the court and the repayment plan is determined by the consumers income and expenses. Under chapter 13 a consumer is allowed to keep their home with usually 10-99% of the debt being repaid. Chapter 13 is reported on a consumer credit report for 7 years.

Although bankruptcy can carry a stigma for many consumers, it does liquidate outstanding debts. With the outstanding debts liquidated a consumer can rebuild credit and actually present reasonably well to a creditor in the future, especially if the consumer takes the necessary steps to build and maintain a new positive credit history. It is important to go through all options before filing for bankruptcy. A consumer may want to speak with a non-profit credit counselor and definitely consult with a lawyer prior to any definite decisions.

Solutions to Consumer Debt - Debt Settlement

Debt Settlement is an area that seems to be receiving quite a bit of attention with consumers these days. Debt Settlement can be done by a consumer, but often times third party groups step in and negotiate an account on the client's behalf. It is important to note that it is not necessary for a consumer to use a third party debt settlement company to settle a debt. A debt settlement is achieved by negotiating with a creditors to reduce the balance owed on a particular account. Most accounts negotiated are with 3rd party collection groups. Most primary creditors do not negotiate too often with settlements, although there are exceptions. Working with a debt settlement company requires a bit of caution, as many fees are added for a service a consumer could actually do independently.

A debt settlement company may charge an initial fee, a monthly processing fee, and lastly a percentage of the debt saved. It is also important to mention that a consumer might be taxed as income on the portion of the debt excused. There are many methods to settling debt, but often times the most effective strategies are the most simple. The idea would be to start low and work your way up to an affordable payoff amount.

Usually, one can come to terms within several phone calls. If a person is uncomfortable negotiating, a friend or a lawyer could be used. I will open this installment to questions, but I think it is important to be very cautious when dealing with for-profit debt settlement groups. Debt settlement is an effective strategy to resolving past debts that have been placed in collection. Remember to keep a copy of the financial instrument you use for the settlement, and request a letter that outlines the settlement agreement. By keeping good records, one can follow up with the credit bureaus to improve a credit score.

Solutions to Consumer Debt - Debt Consolidation

In our continuing series of solutions to consumer debt, we will now take a look at debt consolidation. Debt consolidation should only be considered when one can consolidate debt to a lower rate, and not take on any new financial hardship. It is often a mistake to try to consolidate unsecured debt with secured debt. Secured debt could be a line of credit attached to a home for example. The danger here would be the possible loss of an asset, in this example, a home. When one decides on debt consolidation, this usually means refinancing an existing mortgage. It is important to decide if you want to jeopardize the equity in your house if you are already paying back the principle balance of the home. Lastly, if the current value of a home is below what is owed, then refinancing is not an option. It is important if you are going to access a retirement fund for debt repayment, this needs to be carefully weighed out. In the worse case scenario of Bankruptcy, often times retirement accounts are protected. There are many sides when it comes to the correct way to consolidate, and if it makes good financial sense. A good way to get information is to speak with a non-profit credit counselor and do a full budget to determine your best options.

Solutions to Consumer Debt - Debt Management Plans

Our next topic for solutions to consumer debt will be debt management plans aka "DMP" A DMP is structured through a third-party (usually a credit counseling agency) who would work with the creditors on the client's behalf to set up a plan to liquidate the client's debt usually with a time frame of under 5 years. In New York, a DMP may not extend beyond 60 months or 5 years. A DMP is the logical step a consumer would take if they were unable to obtain favorable terms with their creditors. A DMP administered through a non-profit credit counseling agency would be able to dramatically reduce interest rates, waive late fees, waive over-limit fees, and re-age or bring the accounts current. I would advise only to work with a non-profit agency who is licensed through your own State. In New York, credit counseling agencies are licensed through the NYS Banking Dept. Licensed agencies are listed at the NYSB website:

http://www.banking.state.ny.us/sibudget.htm

Until the time of this writing DMP's had a certain limitation - the minimum payment required. In the past the interest rate on a particular card could be lowered and fees waived, but the minimum required would still be approximately the same - in some cases, more then the consumer's original payment. What is different today is a new program which has been offered by the Top 10 creditors call Call to Action or "CTA."
This is a hardship program for consumers who cannot afford a standard DMP. Payments on a CTA program could be as low as 1.75% of the balance, with a portion of the overall debt being waived if it could not be liquidated in under 60 months. There are some qualifications for these programs; A client would need to show hardship through working out a budget with a credit counselor. In addition, a small monthly savings would need to be made by the consumer to ensure financial stability in the future. These monthly savings would be handled by the consumer, not the credit counseling agency.

As economic times grow tighter, more and more options for helping consumers resolve credit card debt are being offered to consumers by the credit card industry. If you have difficulty affording a DMP, you may want to ask your credit counselor if the agency provides any hardship programs.