How to Rebuild Your Credit Step by Step
Taking positive steps to achieve good credit.
A bad credit score can hold you back from achieving your financial goals. It makes it difficult to qualify for loans, like a mortgage or auto loan, at the right interest rates. Borrowing is more expensive, if you can get approved at all. The good news is that a bad credit score doesn’t last forever. And you can take steps to rebuild your credit even before penalties from past issues expire.
Good credit is essential, but if you’ve face challenges with debt then your credit score may be lower than you’d like. The good news is that you can quickly offset past credit issues with positive actions now. This guide will teach you how to rebuild your credit step-by-step, so you can reestablish good credit.
What makes your credit score go down?
To understand how to improve your score, first you need to understand why it’s bad. Negative items in your credit report cause penalties that decrease your score. There are five factors that creditors use to calculate your score.
Each factor has a different “weight” that determines how much it affects your score. The biggest factor is credit history and this is usually how most people end up with a bad score. Any of the following are bad for credit history:
- Missed payments
- Any accounts that are not in good standing, such as charge offs or settlements
- Collection accounts
The more blemishes you have on your credit history, the lower you can expect your score to be.
Another reason your score may be low is that you have too much debt. Credit utilization is the second most important scoring factor. If you’ve run your credit cards up to their limits, you have a high utilization ratio. Anything about 30% is bad for your score.
Finally, you may have too many recent credit applications. If you’ve been using credit to cover parts of your budget, you may have applied for many lines of credit within the past year. That would also contribute to your bad score.
Understand Credit Inquiries
Understand how credit inquiries can affect your score, including the difference between soft inquiries like checking your own credit and hard inquiries when you apply for credit.
Welcome, to the Game of Good Credit. Winning at the Game of Good Credit means taking the right actions to achieve a high score. So, let’s look at how credit inquiries can affect your score.
A credit inquiry happens when you authorize someone to run a credit check. Creditors and lenders run credit checks when you apply for financing. They look at your gameplay history to assess your creditworthiness.
In addition, employers, landlords and even insurance companies can run checks. They review your credit to evaluate risk. Even when you check your credit, it creates an inquiry on your report.
For the most part inquiries have a neutral impact on your credit game – they don’t move you forward or back. You can check your credit as often as you want and it won’t create a negative item or set you back. Employment and insurance related inquiries have a neutral impact, too. And even when a creditor checks your credit to extend a pre-approved offer the effect is neutral. So, while all these inquiries appear on the field, their effects are neutral. That’s why these are referred to as “soft inquiries.”
However, if you apply for a loan or credit card, that creates a “hard inquiry.” One or two hard inquiries within a certain time is fine – the effect on your game is still neutral. But if you have credit applications – one after another – within a six-month period, then it becomes an issue that can set you back from the high score you want.
If you apply for a mortgage or car loan and shop around, each lender runs a credit check when you request a quote. HOWEVER, in this case you don’t get penalized for comparison shopping. All the inquiries get grouped together so the effect is neutral. Just keep in mind that the same thing doesn’t happen with credit cards or other types of loans.
For more information on winning the game of good credit, visit ConsolidatedCredit.org
Moving on from negative credit report items
Nothing in the world of credit lasts forever. Negative items drop off your report naturally after a certain period of time. Most negative items go away after seven years from the date you incurred the penalty. This includes collection accounts, missed payments and even Chapter 13 bankruptcy and foreclosure actions. A few penalties remain longer.
When Do Negative Credit Report Items Expire?
Learn when negative items naturally drop off your credit report, so you can plan effectively as you work to build a better score.
Welcome back, contestants, to the Game of Good Credit!
Do you have the right strategy to win? The game of good credit is easy to win with the right moves. And winning means you achieve a good credit score that helps you get approved with low rates. But some actions you take can set you back.
By law, filing for bankruptcy hits you with a penalty that sets you back 10 years from the date of filing. Except if you file for Chapter 13 – the bureaus stop the penalty after 7 years. This minimizes the setback so it’s easier to recover.
Things that happen outside your credit file can also affect your game – civil suits, court judgments and records of arrest can come up. These public records remain for 7 years from the date of entry OR as long as the current governing statute of limitations allows – whichever is longer.
Unpaid taxes can also set you back. A paid tax lien sets you back seven years from the date the lien was paid. On the other hand, if you leave a lien unpaid it can stop you in your tracks and remain indefinitely until you pay it off. That is, except in Experian’s game where the penalty for unpaid tax liens ends after 15 years.
Every time you pay on time it creates a positive space that stays on your credit forever and pushes you ahead. But each time you pay more than 30 days late, it sets you back 7 years from the date the payment was missed. And the longer a debt goes unpaid, the more it sets you back. If you let it go unpaid too long, the creditor writes off the account and changes the status to charge-off. Charge offs also set you back 7 years.
There is one exception to that rule… If you default on a federal student loan and then bring it current, any negative actions from the late payments disappear. But for all other debts, charge-offs are usually sold to collections, which creates ANOTHER trouble space that causes issues for 7 years. So, letting a debt slip into default is almost a double or triple whammy to your game.
However, don’t believe a collector if they say they have ways of ruining your credit game forever. That’s just not true. Nothing you do can get you kicked out of the credit game forever. Any penalty you encounter will only set you back. But you can offset these setbacks by taking positive actions that help you move forward. So even if your period of financial distress puts you back at Square One, you can start again and get right back in the game.
For more information on winning the Game of Good Credit, visit ConsolidatedCredit.org
In addition, the “weight” of negative items decreases over time. So, a payment missed last month is much worse than one missed four years ago. This means that taking positive actions now can offset any past issues. You can be proactive and work strategically to rebuild your credit despite negative items you incurred in the past.
Step by step instructions for how to rebuild your credit
You can rebuild your credit in about six months to a year if you have a bad credit score (500 or lower). Just take these five steps:
- Repair your credit to remove any mistakes
- Obtain a secured credit card or small personal loan
- Build a positive credit history
- Gradually take on new credit
- Avoid any actions that could cause negative items
Step 1: Repair your credit
Negative items damage your credit, but mistakes can occur in reporting. If something is reported incorrectly to a credit bureau, you may have negative items that shouldn’t be there. Credit repair is the process you use to dispute these errors and have them removed.
The best way to repair your credit is free. You should identify and dispute mistakes yourself.
Step 2: Obtain a secured credit card or small personal loan
In order to build credit, you need debt that you can pay off responsibly. But obtaining credit that counts toward you credit history isn’t always easy with bad credit score. There are two options that you can use:
- Use a small cash deposit to open a secured credit card. Since the debt is backed by a cash deposit, you can open a secured credit card even with a bad score. The credit depends on how much you put up for the deposit.
- Apply for a small personal loan. You can use the funds to cover a major purchase, redecorate your home, or even to start a college fund or make and investment. Loans offer the benefit of fixed monthly payments that are easier to make.
In-store credit lines can also be a good small debt to start with. You can buy furniture or electronics using in-store credit. This is basically like a loan, that you repay with fixed installments.
Step 3: Build a positive credit history
This means making all debt payments on time and keeping all accounts in good standing. If you get a personal loan or in-store credit line, simply meet the payment requirements each month. Also make payments on any other loans you may have, such as student loans.
If you got a secured credit card, make a small number of charges that you can afford to repay in-full. This not only helps you build credit, it teaches you how to use credit cards interest-free. If you start and end each billing cycle with a zero balance, interest charges never apply.
Each payment you make on time creates a positive remark in your profile that offset past negative remarks.
Step 4: Gradually take on new credit
The more credit lines that you can maintain in good standing, the faster you build credit. But, you don’t want to take on too much new credit at once. It’s bad for your score and it’s difficult to manage the debt.
So, after about six months of managing the first account you picked up, consider new credit. You can see if you qualify for unsecured credit cards or consider a larger loan, like an auto loan. Once approved, make all those payments on time and keep the account in good standing.
Repeat this process over time and you’ll achieve an excellent credit score. Just be careful to make sure you can afford to pay back off debt before you open a new account. You should also only take on credit when you have a specific purpose for it. Don’t just open new credit cards because you happen to receive offers in the mail!
Step 5: Avoid actions that can damage your credit
You don’t want to ruin your efforts by making a bad choice that could decrease your score. This means you need to avoid any actions that reflect negatively on your credit:
- Never miss any payment by more than 30 days (that’s when the creditor first reports the issue to the credit bureau)
- Keep your credit utilization ratio below 30% or lower (lower is always better). To calculate utilization, divide your total current credit card balance by your total available credit limit.
- Don’t apply for too many new lines of credit within a six-month period. If you apply for mortgages or auto loans, then shopping around and getting multiple quotes in a short timeframe will only count as a single inquiry.
- Don’t close your old accounts. Credit “age” is a smaller scoring factor that looks at how long you’ve had accounts in good standing. If you close an old account or let it close due to lack of use, you decrease your credit age.
- Stay on top of other bills to keep them out of collections. This is especially important for out-of-pocket medical expenses not covered by health insurance. If you think you’re covered and weren’t, the bill can go to collections and hurt your credit.
And remember, the more control you have over debt, the less likely you are to damage your score moving forward. If you ever begin to juggle bills or see your utilization ratio goes above 50%, it’s time to seek debt relief.