Whether it was due to youthful financial irresponsibility, the dishonesty or indiscretions of a spouse or family member, or unfortunate circumstances beyond your control, your debt was a monster that you couldn’t tame and you decided that your only option was to declare bankruptcy. Now what? If you’re looking to get new credit you will be fighting an uphill battle and will likely have to pay more to borrow money at least initially. Just because you are unable to declare Chapter 7 Bankruptcy for another eight years doesn’t mean that you have automatically learned from your past and will be better at handling your money in the future. To some lenders, having a bankruptcy on your credit conveys the idea that you are not good at budgeting and paying debts you owe. To prove that you have turned over a new leaf in your financial life it’s time to start rebuilding your credit.
Check Your Credit Reports
Visit annualcreditreport.com to obtain a free copy of your credit report from each of the three bureaus (Experian, Equifax, and TransUnion). Scour the reports for errors or inaccuracies. If you find any, report them to the bureau in writing. For more information about disputing errors on a credit report, please read this article.
Continue to Make Payments
Not all types of debt may be included in a bankruptcy. Examples of non-dischargeable debts include student loans, child support and alimony, and traffic tickets. If you have debts or obligations that were not included in the bankruptcy you must continue to pay those debts. You must also continue to pay your regular monthly bills such as rent, utilities, and car insurance.
Create an Emergency Fund, Then Keep Saving
Jessica Cecere, president of the Consumer Credit Counseling Service of Palm Beach County/Treasure Coast of Florida, says “Bankrupt consumers are in a better position to save because they’ve eliminated their debt and they need to plan for their financial future again.” Experts recommend saving 10% of your pay, but if you can’t afford to save 10% you should still put aside whatever you can afford to save. You may be surprised at how much money you can save by making small changes in your routine. Instead of stopping at your neighborhood Starbucks or Tim Horton’s every morning on your way to work, make coffee at home and bring it with you in a travel mug like the Copco To Go Mug (available at Bed Bath & Beyond). Or, instead of buying lunch every day at work, make a brown bag lunch at home or pack up last night’s leftovers. And of course, taking the time to prepare meals at home is better for your bank account and your health.
Aim to save up an emergency fund of $1000. That will give you a cushion to cover unforeseen expenses like flat tires, a tree falling in your yard during a bad storm, or your refrigerator suddenly not working properly. Once you’ve reached $1000, keep saving.
Get a Secured Credit Card or Secured Loan
After creating your emergency fund, work on putting aside an additional $500-1000. You will be using this money to obtain either a secured credit card or a secured loan to begin improving your credit score. Both secured credit cards and secured loans should be available from your favorite local credit union. We recommend staying local for two reasons. One, choosing a local financial institution means that you can speak to a real live person at an actual brick-and-mortar location if you have questions or problems or if you need help for any reason. Two, it’s so easy to get scammed online these days, especially if you’re seeking help in rebuilding your credit.
Let’s say you have saved up an additional $500 and you’re going to use that amount to start rebuilding your credit. If you use the $500 to get a secured credit card, the credit union will hold that $500 and issue you a credit card with a $500 limit. You may then use that card to make purchases just like you would with any other credit card, and you will also get a statement in the mail every month. The credit union will report to the credit bureaus when you make your monthly payments on time, and over the course of several months your credit score will increase. Usually after a certain number of months have passed (in which you made on-time payments, of course) your initial $500 deposit will be released to you. At that time you may be able to convert the secured credit card to a regular unsecured credit card. Ask your credit union for details.
A secured loan works similarly to a secured credit card: You give the credit union your $500 and they in turn issue you a loan for that amount. Interest rates for secured loans typically start at 4 or 5% and you may choose the term for the loan. Each month you will be required to make a payment on your loan. At the end of the term you get your $500 back and a nice boost to your credit score.
The principle behind secured credit cards and secured loans is that you are guaranteeing the debt up front with cash. If for any reason you failed to make a payment the credit union is holding your money and can use it to cover the debt. Such slip-ups should be avoided, however, because your goal is to improve your credit rating, not send it farther into the dumps!
Get a Regular Credit Card
Once you have made it this far, take a moment to reach around and give yourself a pat on the back! You’re doing well in your quest to rebuild your credit and it is now time to get a regular unsecured credit card. It’s a good idea to start out with a card that has a small spending limit, like $300-500. (Remember that $500 that is sitting in your account at the credit union after you successfully completed the previous step in your journey? Make sure your unsecured credit card has a limit no higher than that amount. You can always use that money to make your monthly credit card payment if something unexpected happens. Then you don’t even have to touch your $1000 emergency fund!) When you make your monthly payments on time and in full the card issuer will report that information to the credit bureaus.
Because 35 percent of your credit score is determined by your payment history and 15 percent is determined by the length of your credit history you should expect to spend a minimum of 12-18 months working to bring your score back up to the mid 600s. Your patience will be rewarded by lower interest rates if you apply for a vehicle loan, a mortgage, or even renting an apartment or starting a new insurance policy. Lower interest rates mean lower monthly payments, and lower monthly payments mean that more of your hard-earned money stays in your pocket.