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A reader, Anne, was shocked to discover she could not secure a mortgage for a small warehouse she wanted to purchase to expand her three-year old, highly profitable, electrical supply business. She’s carved out a unique market niche, built excellent cash flow, produced profits exceeding 20 percent for the past two years after 10 percent her first year, and never expected her business bank to decline the mortgage application for her successful company.
While Anne’s business credit is excellent, she and her late husband were forced to declare bankruptcy five years ago, when his medical bills far exceeded their income. She started her company to try to recover from the wipe-out of the extended illness. She’s lived frugally, paying herself a miniscule salary and using the business’s resources to grow the company.
These steps could have prevented her credit denial:
Rebuild after a financial disaster.
Most people experience financial catastrophes. These can include overwhelming medical expenses, education debt that is too great for your income after graduation, a lawsuit, running up high balances on a spending spree that you cannot pay off with your income, or having an adjustable rate mortgage (ARM) reset to a payment that is far too high. It doesn’t matter why a disaster occurs; it’s important to re-build after you declare bankruptcy or reach settlement amounts on your accounts or endure foreclosure or a short sale. Your negative personal credit needs to be replaced by positive history.
I wish I knew how many times someone said to me, “I cut up all my credit cards. The best thing for me is to not use credit at all.” Then they try to buy a budget-priced car only to discover the interest rate is so high that they can’t afford the payments. You must establish a history of responsible credit use to qualify for credit. That means you have four active accounts that you use every month so the three major credit reporting agencies (CRAs) receive information about your credit use on all four accounts each month.
Your accounts can include mortgages, automobile loans, student loans, major credit cards, department store and home improvement store accounts, or any other account where the company reports your activity to major credit bureaus. You achieve a much higher credit score by charging less than 10 percent of your credit limit every month on each credit card account and paying it off when you receive your statement. Don’t run up balances on credit cards. Just use them for small purchases and pay them off every month. This process should build your excellent personal credit within two years.
In Anne’s case, they never missed a payment or paid late on any account, when they declared bankruptcy. However, the sheer size of the medical debt, at more than a million dollars, was about twenty times the value of the equity in their home. With no late history, re-establishing personal credit immediately after the bankruptcy could have happened rapidly for Anne.