Your Three Step Plan for Rebuilding Your Credit

Woman calculating credit report

If you’re like a lot of us, you’ve probably had a financial setback at some point in the last several years that damaged your credit. Whether you’ve never had compromised credit or have struggled with it for years, it can be fixed, if you know how. 

If you do it step-by-step and with patience and persistence, you will see your credit score go up, significantly in some cases, and begin to achieve financial goals that you thought were out of reach for you. Here are the three steps for restoring your credit: 

Step 1: Pull your credit reports, review and correct them and pay off specific items.

You can get all three credit reports at least once a year, completely free, by going to the Annual Credit Report website. Resist the pressure to sign up for credit monitoring or other fee-based services and focus on getting your credit reports. In most cases, you can get them online in minutes.

The two credit experts we interviewed for this article, Erica Sandberg and Angel Rich, say the same thing about the first thing to do once you get them: Focus on the most recent negative entries on your credit report and determine how to fix those first.

Sandberg, Editor-at-Large at the Credit Card Guide website, insists the consumers should “Consider recency, severity and frequency and apply the 24-month rule to all credit report entries.” Author of Expecting Money: the Essential Financial Plan for New and Growing Families, she says that you should ask yourself, particularly as it relates to negative items, “How recent is this entry, how severe is its effect on my credit and how frequently do such entries appear on my credit report?”

Entries on your credit like bankruptcies, judgements and other public record items, charge-offs and late payments have the most negative effect on your credit. The more recently and frequently they appear, the worse your credit profile and score.

Credit expert Angel Rich is an award-winning entrepreneur and founder and CEO of the Wealth Factory in Washington, DC. She agrees with Sandberg, adding that after you get your credit reports, “First, make sure none of the entries are duplicate entries for accounts where the original creditor charged off and they have been bought by more than one collection agency.” Those entries could be on your credit report more than once, she says, and should be disputed. Anything else you know is incorrect or not yours should be disputed so they can be removed as well 

Then, she says “Categorize the debt by type so you understand what you have on your report. Then list the debt by date to determine which items have been most recently added.” You should focus on those items that are most recent (the last 24 months), paying off the lowest amounts first and working your way up to the larger ones.

Rich, who is creator of WealthyLife, a game that teaches K-12 students financial literacy and workforce development, says that in many cases you can both settle the debt for less than the entire amount and make a payment plan to pay off the debt. “In some situations, you can even provide a down payment on a settlement, have the debt removed from your credit report and repay the remaining balance on a payment plan,” Rich, who has done this, explains.

Both experts agree that some debts should be allowed to fall off your credit report if they are large and close to the seven-year expiration date, when they’ll age off the report.

After you’ve reviewed, corrected and paid off debts, then it’s time for the next step in restoring your credit.

Step 2: Add positive entries to your credit report and get new credit.

“What you want to do,” says Sandberg, “is establish new credit so that you will have positive entries on your credit report that show you can pay bills on time. That will raise your credit score.”

However, Rich suggests, “Don’t get any new credit for at least a year after you start paying off old debt.” You should focus on cleaning up your credit report and not add any inquiries to that report trying to obtain new credit. Besides, says Sandberg, “As long as you’re repaying that old debt, you’re adding new, positive entries to your credit report and increasing your credit score.”

When you do begin adding new credit, start with secured credit cards, personal loans or personal lines of credit. Your credit limit will be based on the amount you deposit with the creditor as security for the debt. And, after you’ve paid it off satisfactorily for a set period of time, you’ll get that deposit back.

And one of the quickest ways to boost your credit score, says Rich, is with a car loan. Pay a significant down payment to reduce the loan balance and “make sure you can pay it on time,” she says. She further recommends you make larger payments than required or additional payments so you can pay down principal on the debt. After you’ve started adding positive credit entries to your credit report, continue with the final step.

Step 3: Don’t use all available credit and pay your bills on time.

This step seems obvious but both experts agree. Remember, though, it can be easy to make a mistake if you don’t understand what this really means. “On time,” for example, means your payments should be in to the creditor at least five days before they’re due so they can be posted on time.

“The grace period is for emergency situations,” Rich cautions, “not to give you extra time to pay.” Paying even one day late could damage your credit if it’s reported as a late payment.

Also, you’ll want to keep your credit usage at 30% of what’s available to you. Don’t max out your credit just because it’s there. Rich further suggests you only have 20% of your take-home income as credit debt so you can manage your debt and keep your credit score high.

By taking all three of these steps, in order, you may be able to restore your credit and build up to a high credit score within a few years. At that point, you may be able to buy a home (with the right down payment) or achieve other financial goals. But don’t expect it to take less than 24 months, because restoring credit takes time, even if your credit was damaged practically overnight.

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