Improving your credit vs paying down debt

By Felix Salmon
October 12, 2009
Mitra Kalita profiles Karen King, who has debts of $36,000 and a credit score of 576. King wants to get the former down and the latter up, but sometimes those two impulses work against each other:

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Mitra Kalita profiles Karen King, who has debts of $36,000 and a credit score of 576. King wants to get the former down and the latter up, but sometimes those two impulses work against each other:

With the aid of a financial counselor provided by a nonprofit, Ms. King is applying triage to her debts. “First, I want to take care of all the little things,” she says, “and then the student loans.”

When a utility to which she owed $300 offered to settle for less, Ms. King says, she declined, because she was told an overdue bill takes longer to come off a person’s credit report when it is settled for a partial payment.

This is what happens when people obsess about credit score at the expense of their broad financial health: it’s much the same thing that happens when people try to lose weight instead of simply trying to get healthier.

In an ideal world, people would simply find their credit score increasing as their financial well-being improved. But in the real world, there’s a whole cottage industry which has sprung up devoted to trying to maximize credit scores, as well as ancillary industries such as Ben Stein’s evil attempt to trick people into paying $30 a month for a service they neither need nor can afford.

What worries me is that the financial counselor provided by a nonprofit might well have been the person advising Ms King not to pay off her utility bill at a discount. Often these financial counselors are seconded from some arm of the financial-services industry, which has an institutional interest in people paying as much of their debts and penalties as possible. Meanwhile, of course, from an individual perspective, if you can pay off a debt at a discount, most of the time it makes perfect sense to do so.

Annoyingly, Kalita never tells us whether it’s generally true that paying off an overdue bill at a discount is likely to be bad for your credit. If it’s not true, of course, then King was extremely badly advised. But even if it is true, there’s a strong case that she should have taken the offer anyway.

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