So you’ve made a few mistakes with your finances, and now your credit score isn’t the best. Maybe you took out too many credit cards and loans, thinking you could pay them back. Perhaps you lost your job or took a pay cut and ended up missing some payments. You put your student loans on hold, but the interest wasn’t subsidized. The amounts you owed continued to grow, now they’re bigger than when you graduated.
But you’re in a better place now, and you want to get your credit score back on track. While improvements won’t happen within a few weeks or months, you can take several steps to rebuild your credit. There’s even a way to keep using credit to buy what you need while you repair a bad score. Below are some of the most important and effective methods you can use to dig yourself out.
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Use a Secured Credit Card
The majority of credit cards are unsecured and require you to meet certain requirements, including a good credit score. However, a secured credit card is an option for those with shorter credit histories and lower credit scores. When you apply for one of these cards, you agree to submit a cash deposit to the card issuer. The amount of your deposit becomes your credit limit.
Unlike unsecured cards, the creditor retains your deposit as collateral as long as you keep your account open. If you fail to pay off your balance, the card issuer can use your deposit to recover the loss. Each bank may have different ranges of deposits you can put down with a secured card. However, a typical range is between $200 and $1,000.
For the most part, using a secured card works the same way as an unsecured card. You can charge up to your limit and will receive monthly billing statements. You need to make the minimum payment or more, and your balances accrue interest if not paid in full. The interest rates can vary between card issuers, but you might find they’re slightly higher than those with unsecured cards.
Improving your credit score with a secured card is possible by practicing responsible spending behaviors. Charge smaller amounts that stay below your credit limit and pay them in full each month.
For instance, you might want to only use your card to buy groceries or gas. Or you could pay your monthly bills. Whatever you choose, limit your charges to purchases you know you can afford to pay off when the statement comes.
By paying your monthly balances in full, you’ll avoid interest charges and establish a consistent payment history. With time, your credit score will go up based on your history of on-time payments. After a year or more, you may have the option to convert to an unsecured line of credit. You’ll get your deposit back as long as you’ve met all the terms of your initial card agreement.
Keep Your Balances Down
A significant portion of your score is linked to how you use credit. After payment history, credit use or utilization contributes the most to your score. The major credit bureaus determine 35% of your score from your payment history and 30% from usage.
Your credit mix accounts for 10%, with your history length and new credit inquiries making up 15% and 10%, respectively. Credit mix refers to whether the types of credit accounts you have are diversified. New inquiries include requests or applications for new credit, including personal loans and mortgages.
Utilization encompasses what percentage of your credit limits you use from month to month. Your outstanding and revolving balances influence this portion of your score the most. If you have a credit limit of $1,000 and consistently owe a balance of $500, your utilization is 50%. Credit bureaus look at the limits and balances across all your open accounts to figure out your total usage.
Keeping your credit usage within acceptable ranges means paying your balances down. Although it’s not always possible to pay off balances in full, you’ll want to pay as much as you can.
Start by tackling the largest balances or highest interest accounts first. You can do this by allocating larger payments toward these accounts and making the minimum payments on others. Once you’ve paid off the balance on one account, start making additional payments on the next one.
Some people reverse this strategy by starting with the lowest balances since it can produce faster and more visible results. Whichever method you use, it’s also important to not increase your balances with new charges. Credit bureaus recommend keeping your outstanding balances at 30% or less of your credit limits. Eventually getting to a credit usage rate of 10% is optimal.
Be Strategic About Your Accounts
Once you’ve paid off a credit card balance, it can be tempting to close out the account. You may not see yourself using a department or home improvement store card in the future. But closing accounts that contribute to your credit history can lower your score.
It’s better to keep those accounts open and occasionally make small purchases. As long as you pay off the balances and make on-time payments, you’ll be doing something positive for your score.
Even if you don’t charge anything on the accounts for a few months, you’ll want to leave them open. When you close them out, you can shorten the length of your active credit history. You may also lower the credit mix portion of your score, especially if your other accounts are mostly installment loans. These include car loans, mortgages, and student loans that have a fixed number of payments.
You should also avoid opening up a lot of new lines of credit in a short amount of time. Only take out the loans and lines of credit you need. By applying for multiple loans and credit cards at the same time, you’ll get more inquiries on your credit report. Credit bureaus will see this as an attempt to increase your borrowing, which makes you a higher risk for lenders.
Restoring Your Credit Score
Remember that a bad credit score doesn’t stay with you forever. Plenty of people hit a rough patch or have to learn how to responsibly handle credit. Taking action to improve your score is something you’ll want to sustain over time to get results. If you really are tight on finances right now for your business and it’s impossible to restore your credit score immediately, you can check the small business loans for bad credit to see if you are qualified.
Start by using secured forms of credit to (re)establish a good payment history. Pay off your high balances and keep them lower than 30% of your credit limits. Maintain older accounts you can occasionally use while limiting new credit applications. By following these best practices, you can raise your credit rating back up to good or even excellent.
