Bad Credit Guide
There are various quantitative and qualitative ways to determine if you have bad credit. The easiest and most definitive method is to check your credit score. If it’s below 620, it’s “bad.” Roughly 31% of consumers fit that description, according to WalletHub data, which means you aren’t alone if you qualify. That’s important to understand, as is the fact that complacency is costly.
There are no quick fixes for bad credit, and the designation can cost you well over $1,000 per year. So you must beware of “miracle” solutions and get to work devaluing the negative records on your credit reports. You see, a history of bad credit can make a consumer feel as if he or she is drowning. And like a struggling swimmer who makes strong, consistent strokes to bring his or her head above water, an individual with bad credit has to consistently add positive information to his or her credit reports in order to mitigate past mistakes and see score improvement.
That’s easier said than done, however. Bad credit can be both bewildering and stressful, considering that financial difficulties necessarily precede it and the available advice on how to deal with the situation isn’t always reliable. With that in mind, we compiled this “Bad Credit Guide” to help accurately explain bad credit, debunk myths and guide you through the credit-improvement process. Furthermore, you can track your progress and get customized advice for free by signing up for WalletHub – the only site that offers free daily credit-score updates.
Do I have bad credit?
There are a couple different ways to figure out whether you have bad credit or not. First, is your credit score between 300 and 619? If so, you technically have “bad credit.” If you aren’t sure what your credit score is, you can check it for free on WalletHub.
Alternatively, if you're looking for a more qualitative assessment, consider whether any of the following statements describes you:
- I’m currently late on a payment (credit card, loan or medical bill)
- The balance(s) on my credit card(s) is/are near the limit
- In the past three years, I have declared bankruptcy
- In the past nine months, I’ve been over 60 days late making a payment (credit card, loan or medical bill)
If you feel that your credit score is lower than it truly should be, we recommend checking your major credit reports for mistakes. You can review your latest TransUnion credit report, updated daily, on WalletHub. Furthermore, everyone is legally entitled to one free copy of their credit report from each of the three major credit bureaus every 12 months, and mistakes contained therein can certainly lead to lower-than-deserved credit scores. You can exercise your right to free annual credit reports by calling (877) 322-8228 or visiting AnnualCreditReport.com. Make sure to carefully review each individual report and dispute any inaccuracies.
Can I have bad credit if I've never had a credit card or loan?
Yes, it is possible to have bad credit without ever using a credit card or loan. To understand why you simply have to consider what other types of information are included in your credit reports, which are the basis for all credit scores.
In addition to one’s payment history on credit card and loan accounts, major credit bureaus also keep track of public records (like tax liens and bankruptcies) as well as records of unpaid phone bills, cable bills, medical bills, etc. What’s more, if you were ever an authorized user on a parent’s credit card or loan account and they missed payments or even defaulted on their obligation, the missteps would have been noted on your credit reports as well, causing you to incur credit score damage. Finally, it’s possible that you have fallen victim to fraud or identity theft and the criminal’s unpaid bills are counting against your credit standing.
The best way to get to the bottom of why your credit is bad is to order a free credit report from each of the three major credit bureaus and scour them for problematic records. If you find an error, you can dispute it. If there aren’t any mistakes, you should begin taking steps to improve your credit score.
How does bad credit affect me?
Having bad credit will most likely preclude you from approval for most loans—such as home and car—and from renting a property. If you do somehow manage to obtain a loan, bad credit will cause its associated rates to be much higher.
Still, you may think that it might just be easier to ignore your bad credit because you have no desire for a loan anyway. Unfortunately, bad credit will still affect you in this case because it causes increases in insurance premiums and might prevent you from getting a loan or line of credit in the event of an emergency.
If you still think you can live with bad credit and its myriad implications, realize that deciding so now will seriously set you back should you change your mind in the future because improving bad credit takes demonstrable, responsible spending over a considerable period of time.
How long will negative information stay on my credit report?
Negative information from credit accounts, collection accounts and public records as well as discharged chapter 13 bankruptcies will generally remain for seven years. Chapter 7 and 11 bankruptcies and dismissed Chapter 13 bankruptcies will remain for 10 years.
Additionally, some states—like California and New York—have various state-specific regulations.
Generally, the length of time negative information remains on your credit report depends on the specific type of information.
How do I improve bad credit?
In order to improve bad credit, you must begin infusing positive information into your credit report that will negate past negatives such as bankruptcies, foreclosures and payment issues. A credit card is the easiest tool for developing a pattern of positive credit usage. The type of bad credit credit card that is best depends on the individual consumer’s specific goals, but secured credit cards and unsecured credit cards for bad credit are the two options.
Additionally, it is important to note that a consumer need not make purchases with a credit card in order to benefit. Simply maintaining a credit card at zero balance and in good standing adds positive information to your three major credit reports each month.
However, before taking the aforementioned actions, you must make sure your major credit reports are correct. An important preliminary step in improving bad credit is realizing your right to free copies of your credit reports every 12 months from the three major credit reporting agencies—Equifax, TransUnion and Experian. It is important to check the report from each agency thoroughly and file any necessary credit report disputes because inaccuracies can significantly damage your credit score and the information from each source may differ (all three reports can be accessed at annualcreditreport.com).
Finally, it’s often helpful to find someone with whom you can talk over your spending decisions and overall financial progress. “I’d encourage [people who have bad credit] to find a frugal friend, someone with whom they can talk about money and get support for their choices,” says Jennifer Romich, an associate professor with the University of Washington’s School of Social Work who studies economics and human development as they relate to employment, family processes, and low-income households. “This is not an easy thing to do. We have been strongly encouraged to become consumers, and it can feel like a counter-cultural act to live within (or below) ones means.” Nevertheless, overcoming this societal hurdle will not only enable you to learn by example as well as ask questions about products or concepts you aren’t familiar with, but it will also provide the type of peer pressure that’s conducive to sticking with your credit rebuilding efforts (much like having a workout buddy can force someone to go to the gym and thereby hit weight loss goals).
What kind of credit card should I use to improve my bad credit?
The type of credit card you use depends on your goals in improving your credit as well as the state of the economy and the policies of major banks. Unsecured credit cards for bad credit can provide a means of credit improvement as well as an additional line of credit (basically a loan), but they aren’t always offered and are by far the most costly option.
If you simply need to improve your credit score and do not seek an additional line of credit (or unsecured bad credit credit cards are nowhere to be found), undoubtedly go for a secured credit card. Your limit on a secured credit card equals a refundable security deposit you place in opening the card. This security deposit protects the credit card company from a lack of payment while also removing the very high fee structure of unsecured cards from the equation. It is important to note that you need not make purchases with a credit card in order to benefit. Simply maintaining a credit card at zero balance and in good standing adds positive information to your three major credit reports each month.
How many credit cards should I use to improve my bad credit?
While this advice is far from universally applicable because everyone with bad credit has a different situation, the general answer to the question is that you should use 1-3 credit cards. The precise number depends on how many you can handle comfortably without missing a single payment, which is an integral aspect of improving credit. We do recommend, however, that one of your credit cards be a secured credit card because you can add money over time to the security deposit that represents your credit limit, thereby expanding your available credit. This is important because the more credit you have available, the better in the eyes of prospective lenders.
It is essential that you do not actually use all of the credit you have available because creditors like to see that you do not max out your credit cards. In fact, you don’t even have to use your credit cards because just maintaining a credit card at zero balance and in good standing adds positive information to your three major credit reports each month.
How long until my credit score improves?
Generally, you can expect some improvement from your credit score within 18 months, provided of course that you maintain at least one credit card in good standing with a balance below your limit during that time frame. The exact amount of time depends on the reason behind your bad credit. If you have gone through bankruptcy or a foreclosure, you face a steeper road back to above-average credit than you would if trouble making monthly payments was to blame for your damaged credit. Regardless of why you have bad credit, however, you can hasten credit improvement by opening a secured credit card and consistently adding to your deposit. Higher amounts of available credit lead to more pronounced positive credit score returns. Keep in mind that if you have gone through bankruptcy within the last year, you may even have some trouble getting a secured card. If this proves true, keep applying because there will undoubtedly be a bank that will eventually approve you and allow you to get started with your credit improvement.
How does the new credit card law affect people like me with bad credit?
Though the CARD ACT stipulated many improvement-inducing changes for people with bad credit the most relevant are:
- Credit card companies can charge, at most, 25% of an unsecured credit card’s limit in fees, excluding penalties fees, during the first year
- Credit card companies cannot charge penalty fees that exceed your minimum payment and can only charge late fees over $25 if one of your last six payments was late or it can be proven to regulators (by the credit card company) that the higher fees are justified
- You cannot be charged for inactivity
- You cannot be charged more than one fee for a single event or transaction. This is similar to the judicial concept of double jeopardy; once a ruling on a specific case is handed down, you cannot be charged for it again (e.g. two different types of late fees for one late payment)
- Restrictions on over-limit transactions
- Credit card companies cannot change your interest rate on an existing balance until you are 60 days delinquent
What are the differences between bad credit and no credit?
Though bad credit and no credit are very different things, they are often lumped together because they do share some commonalities. People with bad credit and those with no credit both have difficulty getting approved for credit cards and loans. Similarly, if they somehow do manage approval, the credit card or loan will be far more expensive than that of someone with good credit.
Credit cards are also the easiest option for both groups to build good credit standing. And the primary credit-card options for both groups are secured credit cards and unsecured credit cards. Still, there are key differences between the two. You have bad credit if you have a credit score under 620 or if you meet certain qualitative criteria, such as having declared bankruptcy in the last three years or being more than 60 days late on a bill in the last nine months. You have no credit or limited credit if you have not used a credit card or loan for more than three years.
Similarly, while the secured credit card options are the same for both groups, the unsecured credit card choices are different. Unsecured cards are basically the same for everyone except for the fact that as a consumer’s credit score worsens, associated fees increase while rewards and variety decrease. Therefore, unsecured credit cards for bad credit are more expensive than unsecured credit cards for no credit. Additionally, the CARD Act brought about changes that require consumers under 21 years old (a large segment of those with no credit) to either demonstrate income or have a parent or legal guardian co-sign in order to get either secured or unsecured credit cards in their names.
One simple trick may help you keep the basic difference between bad credit and no credit straight: Add the word “history” after both bad credit and no credit (“bad credit history” vs. “no credit history”). This eliminates any uncertainty as to whether no credit means that you don’t currently have a line of credit or if you have not used credit in the past.
What are the biggest myths about bad credit?
MYTH: You have to make purchases to improve your credit
- Simply maintaining a credit card account in good standing with a zero balance on a monthly basis will add positive information to your credit history.
MYTH: You can pay to remove negative information from your credit report
- You can remove mistakes from your credit history, and factual negative information will be removed over time (generally in 7-10 years), but you cannot pay to have negative information removed from your credit report. However, you can lessen the impact of negative information by adding positive information, like a history of on-time payments
MYTH: If it happened a couple of years ago, it doesn’t matter
- Most negative information will remain on a credit report for 7-10 years.
MYTH: Bad credit doesn’t really have any practical effect
- Bad credit will keep you from getting home and car loans, renting property, and receiving many credit card offers. If you were to somehow manage to get a loan, bad credit would make the associated rates very expensive.
MYTH: You should apply for as many cards as you can because you’re bound to be approved for one
- Multiple card inquiries signal to credit card companies that you are desperate for credit and reflects negatively upon your credit history. If you are having difficulty garnering approval, you should apply for a secured credit card because its approval is guaranteed. Finally, you should only have as many cards as you can handle comfortably because credit cards for people with bad credit tend to be expensive.
MYTH: The government hasn’t done anything to curtail predatory credit card practices
- The CARD ACT actually brought about a more consumer-friendly fee structure for credit cards for bad credit.
Bad credit checklist
- Determine if you have bad credit (credit score between 300-619)
- Visit AnnualCreditReport.com to request copies of your credit reports
- Check these credit reports for mistakes and request corrections if any mistakes are found
- Determine your goals in acquiring a credit card and choose either a secure or unsecured card
- Pay your balance each month to avoid penalties and interest
- Watch as your credit score improves
- Celebrate (responsibly and frugally)!
- Continue to use credit responsibly to avoid having to read this checklist ever again!
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