It is all too common in the current economic malaise that some clients have problems with credit and debt. Perhaps it is a foreclosure, repossession, bankruptcy or simply a few too many late payments that are in the client’s credit past. This leads to anxiety about the future and whether the client can ever restore a good credit rating. Having bad credit is costly. Borrowers pay more for car loans, insurance, house loans and credit card charges. Bad credit can even affect employment opportunities.1
Fortunately, there are some good common sense strategies as well as supporting statutory authority that can be employed to assist in clearing up a not so stellar past. Attorneys who know these techniques can use them on behalf of their clients or as good self help advice for the credit forlorn. But, there are no quick and easy fixes.
Just as every person has different circumstances that got them into credit trouble, restoring good credit will also be unique to each one. A key factor will be how severe the credit problems actually are. Clients with multiple defaulted loans, collection lawsuits, garnishment, citations and very high debt to income ratios needs to address those issues before attempting to clear up their credit. Perhaps a Chapter 7, Chapter 13 or negotiated settlement of the debts is needed. After all, drastic circumstances require drastic actions. If the client is already post bankruptcy or the accounts have been settled or written off, then restoration of the credit history should be a main objective. In other words, unless the bleeding has stopped, no amount of rehabilitation will have much effect.
Assuming, the worst is over and the client is ready to move ahead, the main attributes that lead to success are perseverance and diligence. A little planning, execution and follow up can really make a difference in how quickly a person recovers from their troubled credit past.
Statutory Authority Regulating Credit Reporting. Creditworthiness is a function of many factors. For most people, a good credit report is the key to obtaining credit on favorable terms. The Fair Credit Reporting Act2 (“FCRA”) is the primary law that addresses the legal boundaries of consumer credit reporting. The law was created to address the complex dynamics between lenders wanting a reliable way to evaluate a consumer’s creditworthiness and consumers needing assurances that credit reports would be accurate, fair and impartial.3
Therefore, it makes sense that the FCRA is the first tool to be used in the quest for a better financial future.
Practical Consideration No. 1: Obtain a Copy of Your Credit Report for Free. Perhaps the most empowering provision of the FCRA is the requirement that credit reporting agencies disclose their reports to a consumer once per year, upon request.4 Prior to this law, consumers had to get their credit reports by paying a service, or worse, getting a free copy provided only after credit had already been denied due to a bad credit report.
The mandated disclosure credit reports can be obtained on the internet at ww.annualcreditreport.com. The reports are completely without cost. However, be advised that there are other commercial websites with similar sounding names that either charge a fee upfront or hidden in subscription charges (e.g. free for 30 days). The only truly free site is the one listed above. If internet is not an option, the credit reports can be requested by phone.5
Everyone can and should obtain a copy of his or her credit report annually. This advice is not just for persons trying to restore their credit, but for every consumer. There are three major national credit reporting agencies: Equifax, Tran Union and Experian. One might assume that the information from each reporting agency would be the same. That is too often not true. Therefore, it is imperative to obtain one report from each of the big 3 reporting agencies. Once obtained, the next step is to review the reports.
Practical Consideration No. 2: Review Your Credit Report Annually. At least once per year, all consumers should review their credit reports in detail to determine if any information is reported incorrectly. Incorrect information can take many forms. The report may show an open account, when, in fact, the account is closed. A report may show late payments where there were none. Other common irregularities include: alias names that were never used, addresses for places that are incorrect and social security numbers that are inaccurate. In the writer’s experience reviewing many a credit report with clients, it is sadly too common that all of the above are contained in the same report.
Reading the credit report can be a task unto itself. Formats, font sizes and information appear to be displayed to no common standard across the big three agencies. Typically, the credit report will be broken down into groups. The groups that contain potentially adverse and public records information require careful review. It is often these sections that have the negative effect on credit history.
Practical Consideration No. 3: Challenge Incorrect/Negative Credit Reports. Challenging or disputing negative or incorrect information contained in the credit report is of paramount importance when trying to clear up credit history. This challenge is made directly to the credit reporting agency and not the creditor. The FCRA has procedures for disputing information contained in the credit report. 6
In a nutshell, the procedure is to file a dispute, usually by letter, with the credit reporting agency that created the credit report. The reporting agency then has 5 days to notify the actual creditor of the dispute. If the information cannot be verified, then it must be removed from the credit report. The investigation can take up to 45 days. Upon completion, the consumer must be notified by the credit reporting agency of the results. Unverified information is removed. Correct information remains in the credit report.
If the negative information is actually correct, all is not lost. A consumer has the right to make a personal statement that will be included in the credit report. It is here that the consumer can explain unusual circumstances that may have led to the negative information. 7 Also, negative information does not last forever. A bankruptcy case can be reported for up to 10 years. Other negative information, such as judgments, write-offs and late payments can be reported for up to 7 years.8
Incorrect information may also appear in the sections showing personal information, accounts in good standing, and credit inquiries sections. All sections of the report must be reviewed thoroughly. This is where diligence is required.
Special Consideration: Post Bankruptcy Credit Reporting. When a person has filed for protection under the Bankruptcy Code9, the credit reporting agencies will typically modify the credit report to reflect that the debts are discharged and show a zero balance. The exact terminology may vary, but the account should read something like “discharged in bankruptcy” or “included in bankruptcy”. The report should show a zero-dollar or blank account balance and past due balance. If the report is incorrect, it should be challenged.
The issue of post-bankruptcy discharge credit reporting was the subject of class action law suit in the United States District Court for the Central District of California. In White v. Experian10 the plaintiffs sought relief under the FCRA after discovering that their credit reports contained numerous errors; even after their bankruptcy cases were discharged.
The defendant credit reporting agencies eventually agreed to voluntarily set new standards for credit reporting after bankruptcy. Those standards required that the defendants change the reports to reflect that an account discharged through a chapter 7 bankruptcy be designated by the phrase, “included in bankruptcy”. Also, the agreement required the reporting agencies to indicate that an account included in bankruptcy would show a zero balance due and a zero balance past due.
Special Consideration: Direct Request to Creditor to Remove Negative Information. One other possible way to remove negative information is for the consumer to contact the creditor directly. This can be done by researching the creditor and finding out where to send a request to remove the offending report from credit reporting. Any such letter should contain a copy of the relevant section of the credit report and a request for the creditor to voluntarily remove the account from the credit report. In some cases, the creditor will actually comply. Perseverance can bring positive results.
Practical Consideration No. 4: Establishing Good Financial Habits. As individual’s circumstances leading up to credit trouble can vary greatly, the following items may seem elementary to some. Nonetheless, in the experience of the author, they are important considerations when trying to restore a less than stellar credit history.
Make a Budget: Establishing a household budget is the first place to start. Since 2005, people filing bankruptcy must complete a course in “Debtor Education”.11 The course covers many things, but focuses mainly on making and sticking to a family budget. Since access to credit is likely to be scarce, budgeting must be done on a cash basis. This typically means paying recurring monthly bills (think rent, phone bill, electric bill, etc.) as they come due and then setting aside funds in advance for anticipated expenses to be incurred in the future. By saving a little each month for the upcoming bills, there will be money available when the bill arrives. This is nothing new and makes perfect sense.
Pay Bills on Time: Again it is common sense, but if someone is trying to restore good credit, bills need to be paid on time. This is especially true if the debt is the type being reported to a credit reporting agency. Car loans, mortgage loans, credit card debts are all reported to the agencies. Paying bills on time, every time, will increase a credit score12 over time.
Get and Job and/or Keep Your Job: Employment stability is a factor in many loan decisions. Changing jobs can be acceptable, but hopefully the record can show income growth or a positive career path. Having a job will not increase a credit score13, but it is a factor in many loan decisions.
Create a Positive Credit Record with a Secured Credit Card: If a client’s debt situation is so poor that obtaining a credit card is not possible, one answer is to obtain a secured credit card. This is often the first place for post-bankruptcy clients to seek new credit.
A secured credit card is one where the consumer deposits money in a bank and the bank then issues a credit card. The card is a real credit card and works the same way. There is a credit limit, a minimum payment and exorbitant interest is typically charged. The difference is that the bank keeps the deposit money locked up as collateral. One missed or late payment and the consequences can be harsh, including losing the card and the collateral.
An interesting note on the post-bankruptcy credit market is that consumers may not have to wait long to get back into the credit game. A recent trend is the offer of a “pre-approved” credit card right after the bankruptcy case is over. The explanation for that is that the credit card industry needs customers and prior to a bankruptcy case, many consumers were good paying customers for many years; carrying a balance from month to month and paying lots of interest.
Get to Know Your Local Banker: Most people have a bank account, but they rarely set foot in the actual bank building. Drive-through banking and automated teller machines have eliminated the need to actually enter the bank for most people. In reality, most people have little or no contact with their bank and its employees. However, banks spend millions of dollars each year trying to establish “relationship banking” as a method of getting and keeping customers. They want people to come into the bank and use their services. Having a good relationship with the local banker can help when trying to re-establish credit. Credit Unions are also a good place to start. Credit unions are owned by their depositors and usually have more lenient lending standards.
Resist the Temptation to Co-sign for Someone Else: Co-signing for another person is probably the worst transgression a person can make in the effort to become creditworthy.14 A cosigner becomes liable for the actions of someone else. Typically, a co-signer is used to bolster the weak credit of another person. It is common with auto loans, though it happens in all types of lending. Far too often that the person asking someone to be the co-signer ends up defaulting on the loan. The creditor then comes after the altruistic co-signer.
Practical Consideration No. 5: How to get a Home Loan after Bad Credit Problems. Perhaps the number one question from clients is whether they will ever qualify for a home loan in the future. In the pre-“Great Recession” period, the rule of thumb was that the effects of bankruptcy would fade after 2 years. That seems to still be the general rule. However, banks appear to be fixated on adequate down payments of 20 percent, which might take a client longer to accumulate. Again, establishing good financial habits will be important, including getting to know your bank and personal bankers.
If the client has not filed bankruptcy or settled bad debts, getting a home loan may take longer. Mortgage lenders are hesitant to lend to someone with current credit problems, such as defaults, law suits and collections. As mentioned above, that situation might require a bankruptcy case or negotiated settlement of the accounts to stop the damage; at which point the client can begin to rebuild.
One recent development concerning the Fair Housing Administration (“FHA”) is the changing of rules on when FHA will consider an applicant for a home loan after either bankruptcy or a foreclosure. According to a letter sent to mortgage lenders in August of 2013, the FHA is now relaxing its standards and shortening the time required for a person with a bankruptcy, foreclosure or short sale to qualify for an FHA backed loan to one year. 15 That is encouraging news as more people will be able to get back into home ownership sooner than the prior FHA rules (2 to 3 years).
Conclusion. The road from bad credit to good credit is not an easy one. However, there are steps that can be taken to get back on track. Good credit is vital in our society and can save a consumer thousands of dollars over a lifetime. Utilizing the provisions of the Fair Credit Reporting Act and exercising due diligence can result in a positive change to a person’s credit history and credit score. Clients are well served when their attorneys can advise them accordingly.
1 For a detailed discussion of credit reporting and employment see: Arthur W. Rummler, “Life After Bankruptcy: Post Bankruptcy Protection from Employment Discrimination” The DCBA Brief, Volume 24 (2011-2012).
2 Fair Credit Reporting Act (FCRA ), 15 U.S.C. § 1681 et seq.
3 See 15 U.S.C. § 1681g. The Fair and Accurate Credit Transactions Act (FACTA ) was enacted on December 4, 2003, amending the FCRA . It requires that the 3 major consumer reporting agencies provide a free copy of their credit report to a consumer once every 12 months.
4 15 U.S.C. § 1681j
5 T he phone number is 1-877-322-8228
6 15 U.S.C. § 1681i
7 15 U.S.C. § 1681i(b)
8 15 U.S.C. §1681c
9 Title 11 U.S.C. Section 101 et. seq. is generally referred to as the “Bankruptcy Code”.
10 White v. Experian is a well litigated case. The Agreed Order referenced herein is not a published decision, but is available from the court docket and online at: http://www.bankruptcydischargesettlement.com/stip.pdf
11 11 U.S.C. § 727(a)(11)
12 Credit reports and credit scores are not the same thing. The credit report is the actual information about the financial history. A credit score is a number derived from the credit history. The current credit score standard is the FICO score named after the inventors Bill Fair and Earl Isaac. See: http://www.fico.com/en/Company/Pages/history.aspx
13 For factors that influence the FICO credit score, see: http://www.myfico.com/crediteducation/whatsinyourscore.aspx
14 Not to be confused with a joint borrower. A co-signer typically does not benefit from the loan; such as a grandparent cosigning on a car loan for a grandchild. Joint borrowers finance something together and intend to share use of the property.
15 See the letter online at: http://portal.hud.gov/huddoc/13-26ml.pdf
Arthur Rummler is a sole practitioner with an office in Glen Ellyn, Illinois. He concentrates his practice in all phases of bankruptcy law and creditor/debtor matters. Mr. Rummler is a 1987 graduate of the University of Michigan Ross School of Business Administration and a 1991 graduate of the Chicago-Kent College of Law. He began representing consumer bankruptcy clients in 1992 and later expanded to representing Chapter 7 Trustees, creditors and small businesses. He is an active member in the DCBA, serving as former Assistant Treasurer, Chair of the Law Day and Entertainment Committees and currently as a member of the Planning Committee and Chair of the Bankruptcy Law Committee.