How to Rebuild Your Credit

Lyle is a writer specializing in credit cards, travel rewards programs, and banking. His work has also appeared on MSN Money, USA Today, and Yahoo! Finance.

If your credit score has dropped after a financial problem, you'll need to learn how to rebuild credit. It's not always an easy process, but with enough time and effort, you can ensure your score bounces back.

Factors that influence credit

There are several factors that influence how your credit score is calculated. You can learn how each of these factors work below.

Payment history

Your payment history is your record of on-time and late payments. For a late payment to count against you, it must be at least 30 days past due.

Only payments that are reported to the credit bureaus apply to your payment history. Credit card companies usually report payments to at least one credit bureau, so it’s important to always make on-time payments.

Credit utilization ratio

Your credit utilization ratio is the sum of all your credit account balances compared to the total available credit on your accounts.

For example, let's say you have three credit cards with the following balances and credit limits:

  • A $2,000 balance and a $10,000 credit limit
  • A $3,000 balance and a $15,000 credit limit
  • A $0 balance and a $5,000 credit limit

In this scenario, you have combined balances of $5,000 and combined credit limits of $30,000. Your credit utilization would be 16.67%.

Total debt

The total amount of debt you have, including balances on credit accounts and loans, can affect your credit score. As you'd expect, less debt is better for your score.

Credit mix

Your credit mix is the diversity of your credit accounts. It's better for your credit if you have both a revolving credit account, such as a credit card, and an installment loan, such as a mortgage or car loan. Note that you shouldn't open a new account solely to improve your credit mix. It's possible to get an excellent credit score with even just one credit card.

Age of credit accounts

The older your open accounts, the better for your credit. Credit bureaus look at both the age of your oldest account and the average age of all your credit accounts.

Hard inquiries

When you apply for new credit, the creditor pulls your credit file to evaluate it. This is known as a hard credit pull or a hard inquiry. Each hard inquiry can decrease your credit score. However, this is a minor drop. Hard inquiries have a big impact only if you apply for several accounts in a short time frame.

Public records

Your credit file may include public records that affect your credit. However, only certain types of public records are reported on your credit file. Two of the most common are bankruptcies and home foreclosures.

When do I need to rebuild credit?

You need to rebuild credit if your credit score has dropped due to financial missteps. Although building and rebuilding credit may sound similar, there's a key difference between them:

  • Building credit is creating a positive credit history when you have limited to no information on your credit file.
  • Rebuilding credit is recovering from a problem that decreased your credit score.

How do I rebuild credit?

The two most important parts of rebuilding credit are paying on time and having a low credit utilization ratio. It's easiest to do both with a credit card account. If you can't qualify for most cards, other options include opening a secured account, recruiting a cosigner, or becoming an authorized user on another person's account.

Here's a closer look at each of these aspects to rebuilding credit:

On-time payments

Since payment history is the biggest factor influencing your credit, on-time payments are a must. You can avoid missed payments by setting up autopay. As long as you have sufficient funds in the payment account, autopay guarantees that you won't miss a payment.

Credit utilization ratio

Your credit benefits when you maintain low credit utilization. How low should this be? There's no magic number, but lower is better. Staying under 20% to 30% is a good goal.

Secured accounts

There are two types of secured accounts that can be useful for rebuilding credit: secured credit cards and secured loans.

A secured card requires a deposit upfront. Card issuers often set the card's credit limit to the amount of the security deposit.

A secured loan is a loan for which the borrower puts up some sort of collateral. Examples of collateral include the funds in a savings account or a vehicle.

The security deposit or the collateral gives the creditor something to collect if the borrower defaults. For that reason, secured accounts are easier to get approved for than unsecured accounts.

Cosigners

Having someone with good credit cosign on your credit card application can help you get approved for the card. The credit card company will use your cosigner's financial information to decide whether to approve the application.

Authorized users

You don't need your own credit account to improve your credit. You could also become an authorized user on another cardholder’s account. When you're an authorized user on a credit card, that card's activity goes on your credit file. If the primary account holder pays on time, it builds both their payment history and yours.

You'll need to find a family member or friend willing to add you as an authorized user on their account.

How long does it take to rebuild credit?

It can take anywhere from under 30 days to over a year to rebuild credit. The time frame depends on what's affecting your credit and how good your credit was before.

For example, high credit utilization is an issue you could fix within 30 days. Credit card companies report your balances every month, so if you pay down your cards enough, it can have a quick impact on your credit. Other issues, such as late payments, can affect your credit for much longer.

Negative marks remain on your credit file for a set amount of time, depending on what the item is. After that time frame, they fall off your credit file, meaning they no longer affect your credit. Note that an issue can also stop affecting your credit before it falls off your credit file; the amount of time a negative mark stays on your credit file is simply the maximum time period that it could affect your credit.

Here's how long the most common issues stay on your credit report:

Late payments

Late payments stay on your credit file for seven years, and it generally takes at least a year to recover from a late payment. If you had excellent credit before the late payment, it could take much longer for a complete recovery.

Another factor is how late your payment was. A 30-day late payment is better than a 60-day late payment, which is better than a 90-day late payment, and so on.

Collections

Collections reports stay on your credit file for seven years. They have much less of an impact on your credit score after two years.

Bankruptcy

A Chapter 7 bankruptcy stays on your credit file for 10 years. A Chapter 13 bankruptcy stays on your credit file for seven years. Your credit score can gradually improve during that time, but it will likely take several years or even the entire seven to 10 years for a complete recovery.

Civil judgments

Civil judgments could previously stay on your credit file for seven years, but these are no longer reported on consumer credit files.

Paid tax liens

Paid tax liens could previously stay on your credit file for seven years, but these are no longer reported on consumer credit files.

Hard inquiries

Hard inquiries stay on your credit file for two years, but they won't affect your score for longer than one year.

Managing debt

Bad credit is often the result of debt. If you're dealing with debt, then you'll need to get it under control to repair your credit. Fortunately, there are options available to help you manage debt.

Credit counseling

This service involves discussing your finances with a credit counselor. That counselor can go over your spending, improve your budget, and recommend ways to pay off your debt. Nonprofit financial counseling organizations usually offer credit counseling free of charge.

Debt management plans

A debt management plan is an agreement between you, your credit counselor, and your creditors. If you and your counselor think a debt management plan is a good idea, he or she can contact your creditors to negotiate. Credit counselors can request lower monthly payments, lower interest rates, or waived late fees. They typically don’t negotiate the amount you owe.

When a credit counselor has set up a plan with your creditors, you make one payment to the counselor per month. They then distribute that amount to the creditors.

Debt management plans usually have a setup fee and a monthly fee. You should start with credit counseling and progress to a debt management plan only if necessary.

Consolidation

Debt consolidation is when you use one credit card or loan to pay off all your debt. You then go from multiple monthly debt payments to just one. You could also get a lower interest rate on your debt.

If you're going to use a credit card to consolidate debt, balance transfer cards are the most popular option. Many of these cards offer 0% intro APRs, which means you can avoid paying interest on the debt for as long as the card's intro period lasts. However, the interest rate will increase after the intro period ends, so a personal loan may be a better choice if it will take several years to repay your debt.

The road to recovery

Rebuilding credit isn't complicated, but it will take financial discipline. You'll need to work hard on making every payment on time, not using too much of your available credit, and getting any existing debts under control. If you do that, you'll see your credit score begin to rise higher and higher.

FAQs

  • You need to rebuild credit if an issue on your credit report has caused your credit score to drop. Examples include late payments, using a large portion of your available credit, or having an account reported to collections.

  • To rebuild your credit, you need to pay bills on time to build a strong payment history and keep your credit utilization ratio under 20% to 30%. Since payment history and credit utilization are the most important scoring criteria used to calculate your credit score, they're what you need to focus on to rebuild credit.

    If you already have one or more credit cards, then you should catch up on any delinquent payments and ensure you pay on time every month going forward. If you have large balances resulting in a high credit utilization ratio, then you'll need to work on paying them down.

    It's easiest to rebuild credit by using a credit card, as most card issuers report card activity to the credit bureaus monthly. If you don't have a credit card and you need to get one with bad credit, secured credit cards that require a security deposit to open are one option. You could also become an authorized user on another consumer's credit card or ask someone with better credit to cosign on a credit card application for you.

  • The amount of time it takes to rebuild credit depends entirely on why your credit score decreased in the first place. If you had high credit utilization, your credit could recover within a month of fixing the issue. However, any issue related to your payment history or being delinquent on an account will take much longer. It generally takes at least a year to recover from a 30-day late payment, and more serious issues, such as bankruptcies, could affect your credit for several years.

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