If you have with a very bad credit score you know how difficult it can be.
Thankfully, there are ways to recover from this situation and to get your credit score back to a reasonable level. It will take some effort and time but it will be worth it in the end.
How Your Credit Score Works
The credit score used by 91 of the 100 largest U.S. financial institutions is the FICO credit score, which is developed by the Fair Isaac Corporation.
The precise formula to calculate FICO credit scores is top secret and undisclosed to the public. However, FICO reveals to everyone that it looks at your credit reports and evaluates your credit history with the following outline:
- Payment History – 35%
- Credit Utilization – 30%
- Length of Credit History – 15%
- Number of New Accounts/Applications – 10%
- Mix of Credit Types – 10%
FICO credit scores range from 300 – 850. Anything under 560 is considered very bad while below 650 is bad.
A score of 650 is considered fair and will qualify you for some loans. A score of 700 - 750 is good and will be enough to get all but the best deals.
You can see in the charts below how your score can affect how much you'll pay on different kinds of loans.
How Your Credit Score Can Affect Your Future Mortgage Rate
|Credit Score Range||30-Year Fixed Rate Mortgage||5-year fixed rate mortgage||7/1 ARM|
How Your Credit Score Can Affect Your Next Car Loan
|Credit Score Range||60-Month new Car Loan||40-Month Used Car Loan|
How Your Credit Score Can Affect Your Next General Loan
|Credit Score Range||HELOC||Home Equity Loan|
Your ability to pay on time, as well as how much debt you have compared to your credit limit make the biggest impact on your score.
If you keep your debt low (ideally below 30 percent of your total credit limit), pay on time every month, and don’t apply for new credit cards frequently, your score will be good.
Missing a few payments and maxing out your cards will quickly drop your credit score.
Dealing with Identity Theft
The first step to repairing your credit is to get a copy of your credit report. You can request a free copy from each of the credit reporting agencies, Equifax, Experian, and TransUnion once a year through AnnualCreditReport.com.
Once you have a copy of your credit report, make sure that all of the accounts and debts listed are correct and up to date.
If your identity has been stolen, it is possible that someone has applied for a loan in your name and then not paid.
This can have a big impact on your credit score so it is important to resolve the problem quickly.
If you think you are a victim of identity theft you should file a police report, explaining why you believe you are a victim and what debts have been opened in your name.
You can begin the repair process by disputing the debts with the credit reporting agencies and sending them a copy of the police report you submitted.
Look for Errors on Your Credit Report
If you find that there is an error with your credit report it is possible to get it fixed and improve your score.
Start by sending a written letter, by certified mail, with return receipt requested to the credit agencies that have errors on your report.
The Federal Trade Commissions has a sample letter on their website. Be sure to include copies of documents that support your claim that the debt is not yours or that it has been paid in full.
The credit agencies have 30 days from the time they receive your letter to respond. This is why you will want to hang on to the return receipt.
If the agency fixes your report, you can request that they send corrected reports to anyone who has checked your credit in the past six months.
If the credit agencies do not resolve the error, you can send a dispute letter to the company providing the debt information to the credit agency.
Again, send the letter by certified mail with return receipt requested. They will have to respond with evidence that you owe the debt, or contact the credit agencies to remove the mistakes.
How to Repair Your Credit Score
There are a number of things that create black marks on your credit report and lower your score. The major ones are:
Recovering from Late payments
Late payments make a small dent in your credit score, but it is not difficult to get one removed from your report.
Negotiate with the company that reported the late payment and ask for a goodwill adjustment.
If you have a good payment history and only missed one or two, they may be willing to help by removing the late payment. Another strategy is to offer to sign up for automatic payments in exchange for the company removing the late payment.
It is also possible to dispute the late payment with the credit agency if you see any inaccuracies in the report.
How to Handle Having Bills in collections
Paying a bill in collections is not enough to get it removed from your credit score. Your options for getting it removed from your report are to wait it out, to dispute it with the credit agencies, or to negotiate a pay for delete deal.
Disputing the bill is often effective because collection agencies purchase debts from other companies at a steep discount.
They may be unable to prove that you legally owe the debt, and will have to remove the mark from your credit report.
Knowing this is helpful when you have multiple collections agencies contacting you because it is possible that some of them are trying to collect on debt you no longer owe.
If you do owe the money, try working out a pay for delete deal, which is further discussed later in this article.
Another thing to be aware of is that the new FICO 9 credit score does not subtract points from your score for collection accounts that have been paid in full.
Fair Isaac Corporation, the company behind the FICO score, occasionally updates how they determine scores and FICO 9 is their latest version of the FICO score.
They have continued to provide the older version so many lenders have been slow to change the score they use. Mortgage providers in particular have continued using the old FICO score.
Credit card companies have begun moving to FICO 9, but it will take a few years for it to see widespread adoption. Despite the somewhat limited scope of FICO 9, paying your debts that are in collections can provide a boost with the loan providers that use it.
Removing Old Bankruptcies
Unfortunately, it is not possible to remove a legitimate bankruptcy from your credit report. The only method is to wait it out.
Chapter 13 bankruptcies will fall of your credit report in seven years while Chapter 7 bankruptcies remain for 10 years.
After three to five years, bankruptcies begin to have a much lower effect on your score, so making payments on time and keeping the other parts of your credit report healthy is the best way to recover from a bankruptcy.
Surviving a Foreclosed Home
Foreclosures can be particularly difficult to remove from your credit score. They also have a huge effect, dropping your score by as much as 150 points.
The best way to get a foreclosure removed from your report is to dispute it in writing with the credit reporting agency.
If you can point out errors in the report, or if enough time has passed and you’ve been making your payments on other loans on time, they may remove it from your report.
Liens against your income
Tax liens against your income can be removed from your credit report if you meet the following criteria:
- The money collected by the lien has fulfilled your liability completely.
- You have filed and paid your taxes properly for the past three years.
- You are current on all tax payments to the IRS for estimated personal and business taxes.
Once those criteria have been met, you can file IRS form 12277 which requests that the government remove the notice from your report.
In most cases, even if you do nothing, these black marks will fall off your credit report in seven years. This means that even if you do nothing your credit report will be clear after seven years pass.
Pay for Delete Deals
To improve your more widely used credit score you can try to negotiate a pay for delete agreement. These deals can only be used when your loans have been sent to a collection agency.
Collection agencies tend to purchase debt from other companies at reduced rates, often pennies on the dollar. Their main interest is to get some return out of the debt they purchased.
If you contact the collection agency and offer to pay a reduced amount to settle the debt, and ask that they remove the collections listing from your report, some will be more than happy to take that deal.
When negotiating a pay for delete deal it is essential to get everything in writing.
Communicate only by physical certified mail and send payment only once you have written assurance that they will follow through on the pay for delete agreement and will settle the debt for the agreed amount. Working with a lawyer to make sure things go smoothly can be worth it.
Improving your Credit with Secured Credit Cards
Outside of pay for delete agreements, the easiest way to improve your credit is to get a loan or credit card and to pay on time each and every month.
The difficult part of this method is getting a credit card provider to offer a card to you. The easiest way to get a credit card and start rebuilding your credit is to ask for a secured card.
A secured credit card is one where you deposit a small amount of money, generally $500 or less with the issuing company.
This amount is your credit limit and the deposited amount serves as collateral. If you miss a payment, the company will take the money you deposited to pay the bill. After six months to a couple of years, the card issuer will give your deposit back and your card will become unsecured.
Small banks that you already have a customer relationship with are more likely to agree to such a deal since there is little risk for them and it is a good way to earn your customer loyalty.
If your bank does not offer secured cards, national issuers like Capital One have some secured card offerings.
Using a Mix of Loan Types to Boost Your Score
Another thing that lenders like to see in a credit report is a mixture of loan types. This proves that you are capable of handling loans with different terms and payment requirements, making it easier to trust that you will pay them back.
One way to take advantage of the value of credit mix when trying to fix bad credit is to get a loan that you can pay off immediately.
For example, if you need to buy a cheap car or make a purchase at a store that offers it, ask for a no credit financing deal.
Make sure there are no pre-payment penalties and you can pay the bill in full immediately. This will improve your credit mix, giving your score a small boost.
It is important to remember that you should never pay interest or pre-payment fees in order to boost your credit score.
Carrying a balance on your credit card does not improve your credit score, and in fact, can reduce it by increasing your utilization.
The minor boost provided by improving your account mix is also not worth paying for. Take advantage of the opportunities you can, but the most important factor in repairing your credit will ultimately be time.