When the borrower defaults on their loan payments for many months in a row, the lender (which is usually a sub-prime lender) will assume that they will not collect on their advance and henceforth report the monies as bad debt.

I certain estimated amount of bad debt due to Charge-offs is reported by  lending companies to their lenders. Financial institutions always allow for a percentage of Charge-offs in their yearly reports.

Of course, if a sub-prime borrower takes a high risk personal loan – such as a Payday Loan – and is completely delinquent at some point, their credit rating will be severely damaged due to their delinquency reported back to the credit reporting agencies such as Transunion, Equifax, Experian, Fair Isaac, and Teletrack.

Creditors track all of the borrowers that default on loans – so badly that their loan is put in the Charge-off category by the lender. They also track whether or not a Charge-off is ultimately paid off at a later date.

You don’t hear the term Charge-off much in everyday consumer lending because it is more of an industry term.

In this graph we can see the average Charge-off percentage rates from the turn of the century until the beginning of 2009. Take notice of the steep fluctuations in Charge-offs between mid-2006 and late 2008, due to sub-prime mortgage backed securities disaster of the time.

A tip to borrowers who may be deliquent on their loans for a period of over three months – don’t think for a second that if your loan is thrown into the Charge-off category that there is no difference in the damage to your credit rating whether you pay back the loan or not. It makes a HUGE difference if you pay back all that you owe later down the road. It’s all tracked.

The credit reporting agencies such as Equifax, Experian, and TransUnion are always calculating your credit score (or FICO), and that is something you want to watch out for, but there is still the personal relationship you have with your local bank. The result of these reputations and relationships with the credit bureaus and your local bank add up to a growing consensus on your personal credit rating. When you take the smart step of consolidating all of your bad debt these authorities see it and this can only help you.

More importantly, YOU can see the positive results that come with being frugal (smart) regarding your financial state. When you consolidate all of your debts into one low payment, and thereby greatly reducing your stress. Below is a list of the positive results of a debt consolidation loan.

Positive Consequences of a Debt Consolidation Loan

• all your different debts are rolled into one debt
• you may not have to pay the full dollar amount (pennies on the dollar)
• your total monthly payments toward debt drops significantly
• you have a lot less stress in your life, and I can’t stress the importance of this (couldn’t resist )
• usually you will have enough money left over at the end of the month to begin saving again
• the banking and lending industry see the action you are taking for a better personal balance sheet
• you pay a much lower interest rate (APR) on all of your combined debt than if you were stuck having to pay down high APR debts such as credit card which carry an APR of 18% to 28% depending on your credit card agreements
• most importantly you have a second chance to get your act together and start working out your fiscal brain instead the brain that “just wants to have fun”

Negative Consequences of a Debt Consolidation Loan

• once you have consolidated all your bad debt you may choose to start spending again and put yourself right back in the same dire financial position
• you might start cranking up your credit card debt again because the zero balance on your credit cards might be burning a hole in your pocket or purse
• by getting yourself bailed out too early you may not suffer enough financial pain to learn from your mistakes and over spending. You may need to suffer a lot more before you actually “get it”
• you may not get bailed out and consolidate your bad debt soon enough and cause extreme damage to your credit rating and FICO score – making your chances of borrowing any money slim to none
• you may not read the consolidation loan agreement closely and end up with a high APR that balloons somewhere along the term
• you might not fully disclose all of your bad debt to the consolidation loan provider resulting in multiple payments every month

This last point is the most important tip I can give you if you are in the midst of fighting of bill collectors and nasty collection agencies – if you realize that you are ready for a debt consolidation loan – MAKE SURE YOU FULLY DISCLOSE ALL YOUR BAD DEBTS to the loan officer, or whoever your lender is going to be.

You must clean up ALL your bad debt (not just the debts you are not embarrassed about) and as a result only have one payment per month at a much lower interest rate.

The consequences of not taking action are much worse than taking action. Move on and learn on. Be completely honest with yourself and adapt to your new financial reality.