by John Kiernan. Personal Finance Editor
Unfortunately for consumers, the debt collection industry is thriving. Not only does it boast $13 billion in annual revenue, but the industry is expected to grow by 15% from 2012 to 2022 – far faster than the average occupation. That shouldn’t really come as any surprise, though, considering how debt-obsessed we’ve proven to be in recent years.
After spending our way into a Great Recession, we’ve defaulted on more than $182 billion in past-due credit card debt and racked up roughly $123 billion in new plastic-borne balances since 2009 . We’ve also allowed outstanding student loan balances to surpass $1 trillion.
Such widespread overleveraging is, of course, indicative of our poor financial literacy and, by extension, the fact that only 40% of us have a budget while 19% of people say they spend more than they make. Our societal obsession with debt also makes it imperative that we know how to handle ourselves around debt collectors, as the decisions we make in regard to overdue balances can have significant financial consequences.
When is Debt Sent to Collections?
Past-due balances are handled differently by different types of lenders and service providers, which means it’s impossible to predict exactly when one’s debt will be sent to collections. “Collections” can also be defined in numerous ways – from a lender’s internal efforts to collect amounts owed to old debts sold to collection agencies at pennies on the dollar. The former will begin almost immediately after a missed payment, while the latter will likely only occur after months of notices, phone calls and financial hardship.
Let’s use credit cards as an example since pervasive credit card debt is one of the biggest issues facing the household balance sheet these days. A single missed credit card payment won’t be reported to the major credit bureaus and won’t affect your credit standing. You have to miss two consecutive payments (i.e. become at least 30 days delinquent ) before it gets reported and your credit standing is affected.
Credit score damage will then intensify as delinquency increases, but issuers generally will not turn an account over to an outside collection agency until the account holder is behind on four monthly payments (i.e. delinquency reaches the 90 -119 day range). Once a credit card account becomes 180 days delinquent, the issuer is legally required to write the debt off of its books (i.e. charge-off the credit card). By that point, ownership of the debt will, in most cases, have been sold to a third-party collection agency.
So-called charge-off timelines vary based on the type of debt in question (for example, personal loans charge-off at 120 days instead of 180). But regardless of where your debt stems from, there are ultimately a few things that we can say for certain in regard to its likelihood of ending up in collections and what will happen along the way:
- You Won’t Slip Through the Cracks: Lenders and service providers aren’t going to somehow forget that you owe them money, so you can rule out hiding as an option. This is especially true in the era of electronic banking and big data. Collections efforts are often automated based on the amount owed, the age of the balance and when the last payment was made.
- Your Debt Will Likely Be Sold: As debts age, lenders and service providers often contract out collection efforts to third-party collection agencies or even sell them the rights to the debt obligations altogether. If your debt is sold to a collection agency, you may have a better chance to settle amounts owed at pennies on the dollar.
- Lawsuits are Common Practice: Debt collectors issue lawsuits as a matter of course when balances prove uncollectible through other means.
- Collections Differ for Secured & Unsecured Debts: A secured debt is backed by physical property, which can simply be repossessed to satisfy certain unpaid debt obligations. That’s clearly not the case with unsecured debts, like those associated with credit cards. And that is why unsecured debts can drag on for so long, as well as why lawsuits are so common.
- It Won’t be Pleasant: Debt collectors aren’t the nicest people in the world. They’re also just doing their job. Understanding that, keeping a straight head, and thinking strategically when dealing with debt collectors is the ticket to escaping the process relatively unscathed.
- The SOL Clock Begins Ticking at the Time of Last Payment: Understanding your debt’s statute of limitations (i.e. the length of time collection can be legally enforced) is extremely important, as the age of your debt will dictate the strategies employed by debt collectors as well as your rights in reacting to them. You can read more in CardHub’s guide on the Statute of Limitations for Credit Card Debt .
Deciding Whether or Not to Pay
While a few factors are in play, your decision of whether or not to pay a debt ultimately boils down to your financial means. If you truly cannot afford to pay what you owe, even with a lot of scrimping, then your options are unfortunately limited. You may, in other words, be forced to allow your debt to charge-off and then face either a lawsuit or bankruptcy in the aftermath – not to mention extensive credit score damage. If, on the other hand, you have the ability to come up with even a fraction of what your lender requires, you’ll likely have more debt solutions at your disposal than you’d initially assume.
The particular strategy that will be most conducive to paying off your debt in collections (e.g. debt management vs. debt settlement) and the urgency with which you will need to address your debt will largely depend on the following considerations.
Will paying off your debt benefit your credit score? This speaks to the difference between new and old debts. Paying debts that have not yet charged-off will prevent further credit damage. Credit score damage increases as payment delinquency progresses, you see, and the sooner you can change the status of your debt from “delinquent”, the better off your credit standing will be. Once a debt is charged-off, however, the damage will likely be already been done, though you can undo some of that damage by getting your account status changed to “settled” or “paid.”
How old is the debt in relation to your state’s Statute of Limitations? When it comes to older debt, the statute of limitations is very important, as it dictates whether debtors still have legal grounds to sue you, and if so, for how much longer they can do so. In addition, any collection documents that you sign or any payments that you make toward the debt have the potential to reset the statute of limitations clock, so it is essential that you act strategically and only make a payment as part of a documented payment plan that will remove the threat of a lawsuit and satisfy your payment obligation once completed.
How to Pay Off Debt in Collections
You essentially have three options when it comes to paying off your debt while it’s in collections. Your first option, obviously, is to pay the full amount the collecting party says that you owe. The vast majority of indebted consumers will not be able to pull this off in one fell swoop, however, which means you will need to explore the viability of debt management and debt settlement.
Debt Management: This is a fancy term used to describe an amended payment plan with a lender or debt collector. Debt management typically entails reducing a borrower’s monthly payment and extending their payment term so they can ultimately pay off the totality of what they
owe, just at a slower and more affordable pace. You can read more in CardHub’s Debt Management Guide .
Debt Settlement: Settling your debt entails making a lump-sum payment for a portion of your balance in return for the rest being forgiven by the lender or debt collector. Debt settlement typically is not an option until you have charged off on your debt, as lenders can hold potential credit score damage over your head as leverage until that point and will continue to hold out hope that you can find the means to pay. You can read more in CardHub’s Debt Settlement Guide .
Dealing with Debt Collectors: What to Watch Out For
You’ve probably heard a lot of stories about debt collectors and their shady tactics. Many of them are likely true. Don’t let that bother you too much, though, because debt collectors are governed by a code of conduct that dictates when and how they can contact you. In other words, consumers have a bill of rights when dealing with debt collectors.
Make it a point to understand your rights as early as possible. Doing so will enable you to self-police the debt collectors that you come in contact with and ultimately report them to the proper authorities if necessary.
Beyond that, there are a few tactics that you’ll want to employ in the name of keeping debt honest and minimizing unnecessary payment allegations. We’ll discuss them below.
If your debt has not yet charged-off and you’re getting hounded by collectors, there’s a chance you’ll be able to work out a payment plan with your original lender. That lender may have simply contracted out its collection efforts to a third-party firm, while maintaining its ownership over your debt obligations. Dealing with a reputable lender is often preferable to consumers than working with a third-party collection firm they have never heard of.
Verifying your debt serves a few important purposes. For starters, consumers often don’t know about fraudulent debts until collection efforts commence. It’s therefore conceivable that someone opened an account under your name or made a bunch of unauthorized transactions using one of your credit cards and never paid the bill.
Debt collectors also like to follow the path of least resistance. Their favorite accounts are those that are easiest to collect on, and even the practice of verifying debt can prove too burdensome for them. That is especially true when you are not dealing with the original lender because collection agencies don’t always have the proper records. Don’t mistake this tactic for a get-out-of-jail-free card, but it’s definitely something that should be in your arsenal.
Verifying your debt will also help you in determining the exact age of your debt and may therefore prevent you from inadvertently resetting the statute of limitations on time-barred debt. Tricking consumers into doing so is a favorite tactic of shady collectors, according to Judy Fox, clinical professor of law at Notre Dame Law School. She says that debt collectors threatening a lawsuit for debt that is beyond the statute of limitations is one of the most common deceptive tactics she sees in the industry.
If you are served with a lawsuit and you do not respond or show up in court, the collection agency will likely win a decision against you, called a default judgment. That’s problematic because another favorite tactic of debt collectors is to tell a consumer that a lawsuit brought against them was filed in error or has been revoked, only as a means of diverting the consumer’s attention and buying time to win a default judgment. That is why you should always verify the status of court proceedings directly with the court, rather than ever taking a debt collector at their word.
Default judgments are also important to understand given that many consumers report never even being served, raising allegations of so-called sewer service. “Consumers who received no notice of actions against them obviously have a right to their day in court,” says Scott Maurer, associate clinical professor in consumer law at Santa Clara University. “Consumers who learn of judgments resulting from suits they were never served with should contact a consumer attorney immediately.”
That is a sound piece of advice, indeed. The more complicated and contentious a situation becomes, the more valuable a good attorney becomes. “When the debtor feels overwhelmed by the phone calls, letters and other collections efforts they need to consult a lawyer,” says W. Lewis Burke, director of clinical education at the University Of South Carolina School Of Law. “They should not wait until they are being sued or they have had their car repossessed.” A lot of attorneys offer free initial consultations, making it a no-brainer to at least talk to a couple of them.
- Avoid Cease-and-Desist Orders
Overburdened by phone calls and threatening correspondence, many indebted consumers choose to write cease-and-desist letters to their debt collectors in order to silence the incessant hounding. This might seem like an obvious decision – tantamount to placing your name on the national “do not call” list – but what you gain in peace from collector contact, you lose in peace of mind and self-awareness. In other words, while you will be free from the annoyance of constantly hearing that you owe money, you may miss important information, such as notice of a potential settlement offer. That is why we recommend that consumers refrain from telling their debt collectors to cease and desist.
With that said, if a debt collector is breaking the rules in terms of the manneor and tenor of its contact with you, you should by all means report them to the Consumer Financial Protection Bureau .
If you believe that debt collectors are not abiding by the law when interacting with you, it’s important that you document a grievance with all relevant parties – the collection agency, your creditor and regulatory authorities. Debt collectors have been known to push the boundaries of legality, after all, and there is no reason for you to have to deal with that.
“Consumers should be on the look-out for bad practices in debt collection,” says Michael S. Barr, professor at the University of Michigan Law School. “If they receive a notice from a debt collector that they believe is incorrect, they should send a letter to the debt collector and the creditor. If the problem is not fixed right away, they should file a complaint online at the Consumer Financial Protection Bureau. … No one should have to put up with harassing or illegal behavior by debt collectors.”
Unfortunately, many consumers do have to put up with such misconduct. That is why Lucia Dunn, a professor of economics at The Ohio State University, believes “collection agency issues will be very important in the post-recession landscape.” “Collection agents are hard to police and there may be gender or racial discrimination in their tactics,” she says. “But there is not currently enough data to assess this systematically.”
Next Steps: Addressing the Underlying Issues
Learning how to deal with debt collectors and ultimately paying off amounts owed are only part of the battle. Figuring out how to get out of debt for good is the real test. Whether your debt stems from a lack of quality insurance, an empty emergency fund or habitual overleveraging, chances are that there’s a lesson or two to be learned from your situation.
You can learn more about some of the best strategies for getting out of debt and staying out of debt in CardHub’s Debt Center . If you’re interested in helping out other consumers who are facing problems like the ones you’ve endured, please take a stab at answering some questions on WalletHub’s Q&A page .