Beware of debt collectors offering credit cards

This post comes from Rob Berger at partner blog The Dough Roller.

Imagine that you have unpaid credit card debt. That's the bad news. The good news is that the statute of limitations on the debt has expired, so you are not legally obligated to pay. But your credit scores have taken a dive, so getting more credit seems impossible.

And then comes along a subprime credit card with a twist.

The Wall Street Journal has reported on a new push by debt collectors to convince consumers to pay expired debt. The pitch is simple: Agree to pay some portion of your old debt, and you will be approved for a new credit card. According to the WSJ article, a lot of people are taking this deal.

And they are making a big mistake. Let me explain.

How these subprime credit cards work

Debt collectors use a lot of strategies to collect debts. When it comes to expired debt, they often try to convince consumers that it's their moral obligation to pay the debt, even if the statute of limitations has run.

I'll leave it to you to decide what your moral obligations are, but it's laughable that debt collectors take this approach. These are the same people who call people at work and use computers to call consumers repeatedly throughout the day. They are the last group of people to talk about moral obligations.

More recently, they've turned to this credit card scheme. They partner with a bank willing to issue subprime credit cards. The debt collectors typically guarantee payment to the bank to entice them to issue the credit card. Then they offer these cards to consumers if the consumers will pay some portion of their expired debt (e.g., $400). Often the credit limit on the new card is equal to the amount of debt the consumer repaid.

To further entice the consumer into this deal, they offer a "balance-transfer" program. This is not like the typical 0% balance-transfer offers major credit card issuers promote. Instead, this program allows the consumer to pay the expired debt by "transferring" it to the new card. The result is that the once-expired debt is now a brand-new obligation that is legally enforceable.

On the surface these deals may have some appeal:

• You get a credit card even though you have bad credit.
• By "transferring" the old debt to the new card, you don't have to pay anything out-of-pocket.

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Why you should avoid these credit cards

There are two key reasons to avoid these offers like the plague. First, the credit card you'll likely get will be a real stinker of a card. They typically sport interest rates of 20% or more and fees that make the banking industry look like a charity.

Second, you are paying debt you no longer legally owe to get a credit card you can probably get on your own. It's relatively easy to get a credit card even if you have bad credit. You don't need these "deals" to get a card.

So if a debt collector comes calling with a great "deal," consider these three alternatives:

Credit cards designed for poor credit. I'd start with Orchard Bank as they offer the most reasonable interest rates for bad-credit credit cards.

Asecured credit card. With these cards, you deposit money with the credit card company as a guarantee for future payment. Your limit is typically the amount of your deposit, and these cards help you build your credit with timely payments.

Unlike cards offered by debt collectors, you get your deposit back when you close your account. With the best secured cards, card issuers require a minimum deposit of a few hundred dollars, but the actual amount is up to you based on how much credit you want. Because your deposit secures payment of future credit card bills, people with really bad credit (or no credit at all) typically get approved.

Aprepaid card. While these cards do not come with a line of credit (you deposit funds on the card much like a bank debit card) and they won't build your credit, approval is guaranteed. These cards typically can be used anywhere Visa or MasterCard is accepted.

The key is to realize that you have options. So if a debt collector tries to convince you to pay expired debt in exchange for a credit card, consider the above options first.

More on The Dough Roller and MSN Money:

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• Official 2012 federal income tax brackets
• How do points affect your auto insurance rates
• Estimate your credit score for free
• Sizing up Suze Orman's new prepaid card
• Find a better credit card