NEW YORK (MONEY Magazine) - Below you'll find the right way to recover from ID theft -- or clean up your errors. It can be time-consuming, but it's the only way to clear your good name to creditors.

If you lose your wallet or see signs of ID theft (an unfamiliar account on your credit report, say), first contact one of the three credit agencies and ask to have a 90-day fraud alert placed on your report (Equifax: 800-525-6285; Experian: 888-397-3742; and TransUnion: 800-680-7289).

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Freeze out ID thieves Even better than a fraud alert is a full freeze on your credit report, which prevents anyone from opening an account without your permission. Unfortunately, you can do this only in these 12 states.       California  Louisiana  North Carolina  Colorado  Maine  Texas [1]  Connecticut  Nevada  Vermont [1]  Illinois [1]   New Jersey  Washington [1]   Note: [1] ID theft victims only; in Washington, also for security breaches.  Source: U.S. Public Research Group.

This lets creditors know that your identity may have been compromised and that they need to be cautious about new loan applications. One call will trigger an alert at all three bureaus.

Next, call your creditors. Close accounts that have been tampered with or opened in your name, and challenge fraudulent charges. Follow up with certified letters. Many lenders have forms, or use the Federal Trade Commission's ID theft affidavit. File a police report, which will let you extend a fraud alert to seven years.

The best way to undo the damage caused by your own bad behavior is to pay bills on time, whittle away at balances on cards that are maxed out and resist opening new accounts.

If you are in deeper trouble, consider credit counseling. Yes, repaying debts through an agency doesn't look good on your credit report, but it can be less damaging than bankruptcy.

The industry has been plagued by conflict-of-interest problems, so start with the government's list of approved counselors or the National Foundation for Credit Counseling.

Bankruptcy stays on your credit report for seven to 10 years, late payments for seven. But you can vastly improve your credit within two years. Creditors consider your recent behavior a much better indicator of your creditworthiness than what you did in the past. Cleaning up your act today can mean lower interest rates by the time you ring in 2008.

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For more on protecting your credit and your identity online, click here for CNNMoney.com's Special Report, "Mission: Security."