There are many avenues that lead to damaged credit. You might have missed a few payments on an important loan. You might have opened too many credit cards. You might have even defaulted on a mortgage or car loan.
However you got here, your personal credit score is damaged, and it’s likely affecting your life in several negative ways; you might find yourself turned down for loans, getting worse rates for mortgages, and/or being rejected for apartment applications. Fortunately, you don’t have to stay in this situation forever. With the right techniques and the proper commitment, you can rebuild your credit score from the ground up.
How to Rebuild a Damaged Credit Score
Step One: Understand Your Score and Look for Errors
First, you need to understand what affects your credit score, and how those factors manifest in your final number. There are actually a few different types of credit scores, but your FICO score is by far the most common. Your FICO score is affected by the following factors, in order of most important to least important:
- Payment history. The biggest percentage of your FICO score depends on your payment history—in other words, do you have a long history of making your payments on time? Late and missed payments can accrue quickly, devastating your credit score, while consistent, on-time, in-full payments can strengthen it.
- Amounts owed. Your credit score will also consider how much money you owe, across all your accounts, including your mortgage, car loan, student loans, credit cards, and other sources of debt. The more you owe at any given point, the lower your credit score will be, especially if you have a high debt-to-income ratio.
- Length of credit history. Though less important, credit reporting companies still want to know how long you’ve held your various sources of credit. The longer you’ve had your accounts active, the better, because it sets a precedent for your patterns of behavior.
- Credit mix. Your credit mix is also important. In other words, what types of credit do you have open, and how many accounts do you have open? Having 12 credit cards doesn’t look too good while having two credit cards, a mortgage, and a student loan looks much better balanced.
- New credit. What percentage of your credit is “new” (i.e., opened within the past several months)? The newer your credit mix is, the more inherently risky or volatile it will be considered.
You can check your credit score once a year from each of the three major credit reporting companies (TransUnion, Equifax, and Experian) at AnnualCreditReport.com and see a breakdown of how you’ve performed in each of these categories. With that information, you’ll know which areas you need to improve on most.
While you’re doing this, be sure to check for any errors that may be negatively and unfairly affecting your score, such as lines of credit you don’t remember opening up, or missed payments that were erroneously recorded.
Step Two: Commit to Avoiding New Credit (and New Debt)
Your first real step in making a better credit score is stopping the bleeding—in other words, not making your credit score any worse than it already is. Try to keep most of your current accounts open (especially the oldest ones), since account history plays a role in shaping your credit score, but make it a point not to open any new accounts unless absolutely necessary. This will help you keep your ratio of new credit low, and decrease your temptation of tapping into those new loans or credit cards.
While you’re at it, avoid taking on new debt, if possible. Don’t buy a new house or a new car, and don’t rack up new debt on your credit cards. This is a relatively easy step to take, so long as you can make ends meet, and it will set you up for success when you start rebuilding your credit score.
Step Three: Set Up Reminders for Payments
The most important factor for your credit score, unfortunately, takes the longest time to build or repair—your payment history. If you want your credit score to increase, you’ll need to make all your due payments on time, and preferably, in full, for several months to a few years. The best way to do this is to set up automated reminders, to let you know when a payment is coming up, and when that payment is officially due. That way, you won’t have to worry about remembering to make those payments—you’ll get a handy prompt to do so.
Step Four: Start Reducing Your Debts
So far, you’re not opening new credit or taking on new debt, and you’ve got your payments covered. Now, your job is to start reducing your current debts:
- Consolidate what you can. Debt consolidation isn’t always a good idea in pursuit of a better credit score, but it could be valuable in reducing your monthly payments. For example, if you have one credit card with an interest rate of 30 percent and another with a rate of 20 percent, transferring to the 20 percent card can save you a ton of money, especially over the long term. It can also make your payments much simpler and easier to remember.
- Negotiate your rates. Take the time to renegotiate some of your interest rates, especially on credit cards. If you’re trying to take a proactive role in eliminating your debts, you’ll be surprised to learn how much you can reduce your interest rates and monthly payments just by asking. The worst they can say is “no.”
- Restrict your budget. Start a budget if you haven’t already, and take a good, long look at it. Chances are, there are several items you don’t truly “need,” such as trips to restaurants and bars, entertainment purchases, and ongoing subscriptions. If you want to get serious about paying off your debts, you’ll need to treat these with a scrutinizing, minimalistic eye. Cut everything you don’t need, and find lower-cost alternatives for what you do need.
- Focus on high-interest debts first. Interest rates compound over time, forcing you to pay far more money than you need to when paying off a debt. That’s why it’s important to focus on your highest-interest debt first, paying that down before moving to your lower-interest debts. This won’t improve your credit score faster, but will reduce the total amount of money you spend to eliminate your debts.
- Acquire new sources of income. If you still need help paying off your debts, your best option is to acquire a new source of income (or two). Depending on your skill set and current sources of income, that could mean anything from taking on a new part-time job to starting a side gig selling crafts on the internet.
Step Five: Establish Better Long-Term Habits
After you’ve eliminated or reduced the majority of your debts, you can start building better long-term habits, to keep your credit score inching higher and prevent another disaster:
- Pay everything you can on time. Never take on more credit card debt than you can feasibly handle, and pay all of your bills on time. If you set up automated reminders when establishing better payment habits, keep them on, and do your best to never miss a payment.
- Keep a good mix of credit. You might be tempted to close out your credit cards if you’ve been frustrated by credit card debt in the past. However, it’s better to keep those accounts open. Keep a good mix of credit, and use those lines of credit on an occasional basis so the activity can contribute to your new credit score. Good sources of debt, like student loans and mortgages, can get you something truly valuable and give you payments you can use to build your score at the same time.
- Establish an emergency fund. Many people end up in debt because they can’t afford to pay for an emergency, such as a car repair or a medical bill. Proactively prevent this by creating an emergency fund of several thousand dollars, or a few months of expenses, and only tap into it when you really need it (replacing it as soon as the emergency is over). That way, you can avoid going into more debt, and make your finances more consistent.
- Check your credit score periodically. You can check your credit score for free once a year, but you can also get your credit score for a low rate from other providers. Checking your credit score won’t affect your credit much, but it’s still not something you should do weekly, or even monthly (especially considering your score won’t change that fast). That said, it’s good to keep an eye on your score to check for inaccuracies and see how it’s progressing—so consider checking in once or twice a year to monitor your progress.
Damaged credit doesn’t mean you have to give up a reasonable lifestyle, and it doesn’t mean there’s no hope for your financial future. It may take months, or in some cases years, to get your credit score back in good order, but your efforts will be worth it whenever you apply for a loan, make a major purchase, or attempt to make a major life change.