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Bad Credit? Time For Tough Love And No Excuses

No credit history. With no history, a lender cannot tell whether or not you are a credit risk.

Late/missed payments. These may cause lenders to view you as unreliable.

Defaulted personal loans. Past defaults cause concern about future transactions.

Home short-sale. Missed payments that frequently accompany a short sale negatively impact credit scores.

Home foreclosure. Lenders often consider those with a foreclosure history to be high-risk borrowers.

Bankruptcy. Past inability to repay debts can significantly lower your credit score.

"What do I do now?"

It's time to cram that brain with credit knowledge. The more you understand about how everyday decisions can affect and be affected by your credit score, the easier it can be to make decisions that rebuild your credit standing. Here are some terms you should know:

FICO. FICO is now the official name of Fair Isaac Corporation, which created the popular FICO credit scoring model.

FICO credit score. A number between 300 and 850 indicating your creditworthiness.

Credit report. A detailed history of all lending accounts that are reported to any or all of the three credit bureaus.

"Hard" inquiry. A record of any time a lender, credit, service or insurance provider reviews your credit history. Multiple inquiries within a short time-frame can have a negative impact on your credit score. If you're shopping for a mortgage or an auto loan, however, FICO allows multiple inquiries within a one-month time span and counts them as one hard inquiry.

"Soft" inquiry. A record of your own requests to review your credit history. Frequently, but not always, requests by employers, landlords, insurance companies are considered a "soft" inquiry. Credit card issuers that may send you pre-screened credit card offers often use a "soft" inquiry. They are not visible to creditors and do not affect your credit scores.

Creditworthiness. A term used to convey how your risk as a borrower. If you have good credit, then you are "worthy" of being given "credit" by lenders.

APR. Annual Percentage Rate. This number is the actual yearly cost of borrowing funds over the term of a loan. If your credit card statement only lists the APR, you can get your monthly interest rate by dividing this number by 12.

Annual fee. Secured credit cards often come with annual fees. Credit cards that offer perks and rewards also often have an annual fee ranging from $29 to $450 (certain elite cards have fees as high as $2500 annually).

Equifax , TransUnion , Experian. The three major credit reporting bureaus. These three companies also formed a scoring model called VantageScore to compete with the FICO scoring system. It uses a different number scale (501 to 990) and is currently less prevalent than FICO.

"Now that I know all this stuff, how do I rebuild my credit?"

There are no shortcuts to rebuilding a good credit profile. Beware paying services that claim they can resolve credit issues fast and without penalty. There are many reputable credit counseling services that can assist you in developing responsible credit practices. Check the listings at the National Foundation for Credit Counseling to find one near you.

These steps can help you reestablish a positive credit history:

  1. Get a secured card. A secured card is a credit card designed for those with no or bad credit. It requires a deposit be made to the card issuer, so the issuer is not in a position to lose money if you default on a payment. The interest rate is often higher than average and there may be fees associated with this type of card. Yes, right now, you are paying more for having bad credit, but that can change. Once you have established a good payment history with this card, it may be possible to qualify for an unsecured card with a better rate and few or no fees. Before you apply for a secured card, be sure to ask the issuer if they report your account to the credit reporting bureaus.
  2. Think about credit differently. This is not free money and it's not even ideal to use for emergencies (hello, rainy-day fund!). From here on out, a credit card is only a report card to credit agencies to prove that you're not a significant lending risk. Make a few small purchases of things you would buy every month anyway, such as gasoline, and pay the balance, on time and in full, at the end of every billing cycle.
  3. Be disciplined. You're not going to get anywhere if you can't pass up the coffee house, the sale sign or drinks with friends. Be aware that the splurges aren't the only thing that can get you in trouble. Splurging on groceries can cost the same as splurging on clothes. In fact, reread step #2.
  4. Be patient. You're credit will not rebound overnight. It could take years to build a reputable credit file. But many companies report your activity at the end of every billing cycle, so your credit is reevaluated by the major credit bureaus regularly. You may not feel that 10 or 15 points is big improvement, but in a few short years, it could make a big difference in the rates you pay.

How many credit cards should I have?

I have a feeling you know what I'm going to say. During this period of rebuilding your credit, one secured card is enough. As your credit improves, you may even see pre-screened offers come in the mail. After about six to nine months of responsible credit practices, you could add one more. A couple of revolving accounts in good standing will help to raise your score. Take the time to carefully find a card that will suit your new needs. A low-interest rate card with no annual fee might be a good place to start. Credit cards are not stamps or baseball cards -- no need to collect them all.

Ugh! This is so much work!

Yep, it is. But it is generally doable. Let trusted friends and family members know that you are adopting a new attitude of frugality and ask them to be supportive. The time and effort you spend improving your credit score can pay off. Literally.

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