How to Build Your Credit
You’ve probably heard that having good credit is important. That’s because it’s a valuable tool that facilitates the purchase of goods and services that may not otherwise be possible. Examples include using a credit card to make a large purchase, renting an apartment, purchasing a car or home, and financing college education. If you’re wondering how to build your credit, you’ve come to the right place. This article explains what credit is, how to establish it, and tips to help you establish a good credit history.
What is Credit?
Credit gives you the opportunity to obtain goods or services before payment, based on the trust that payment will be made in the future. When you make a purchase using credit, you are essentially utilizing a loan. These loans come in various forms such as credit cards, auto loans, mortgages, rent agreements and student loans.
When applying for credit, the lender will review your credit history by pulling your credit report which includes your credit score to determine your ability to repay them. Your credit history is reflected as a three-digit score that usually ranges from 300 to 850. Each lender has its own guidelines as to what good credit means but, a credit score of 300 is considered poor credit and 850 is considered excellent credit. However, any score above 690 is considered good credit. Having a score below 690 could indicate that improvements may be needed in how you manage your credit.
In general, the higher your credit score, the higher your chances are of being approved for a loan. Additionally, some lenders give lower interest rates on loans to people with higher credit scores.
If you have not used credit in the past, or have a lower credit score, you are less likely to be approved by the lender because they are unable to predict whether they will be repaid in the future.
How to Get Credit
If you haven’t used credit in the past, you’re probably asking yourself how do you establish it in the first place? Fortunately, there are many ways you can start building your credit:
Apply for a Secured Credit Card
Many financial institutions offer secured credit cards to help consumers build and/or restore their credit. In general, when you apply for a secured credit card, you are required to pay a security deposit which would then be reflected as your credit limit. For example, if you deposit $250, your credit limit will be $250. Once you have been approved for the secured card and made your deposit, you are free to use your card to make purchases like you would any other credit card (up to your credit limit).
With a secured credit card, your purchase and payment activity is reported to the three major credit bureaus (Equifax, Experian, and TransUnion). If you make all your payments in full and on time, it may reflect positively on your credit report. If your payments are late, not paid in full, or missed entirely, it may reflect negatively on your credit report. As you maintain good payment history over time, the financial institution may give your security deposit back.
Apply for a Credit Builder Loan
When you apply for a traditional loan, you apply for a set amount which is usually released to you upon approval. For example, if you apply for $1,000 and get approved, then the financial institution will give you $1,000 up front to be paid back over time.
With a credit builder loan, you apply for a specific amount but instead of receiving the money up front you make fixed payments to a lender until you reach your loan amount. For example, if you apply for $1,000, you don’t receive the funds until you make payments over time that total $1,000. This payment activity is then reported to the credit bureaus and reflected on your credit report. Once you pay the loan in full, the funds are released to you. In essence, credit builder loans are somewhat of a savings account that can help build your credit.
Become a Co-signer/Co-Borrower on a Loan
If you need a loan but lack sufficient credit history to get approved, you could ask a friend or family member to co-sign for you. Doing so enables you to leverage their good credit history to help build yours. Co-signing/co-borrowing means both parties are technically responsible for making payments on the loan and payment activities will be reflected on both parties’ credit reports. It’s always important to make your loan payments on time, but in a co-signer/co-borrower scenario it’s especially important because making late payments could negatively impact your friend or family member’s credit score, and possibly your relationship.
Become a Joint Account Holder on a Credit Card
Another way to build your credit is to become a joint account holder on someone else’s credit card. If you have a friend or family member with good credit, and who trusts you, they could add you to their credit card account. Again, this enables you to leverage their good credit history to build your own. You will both be responsible for making payments, and the payment activity will be reflected on both of your credit reports. As a joint account holder, it’s important to make your payment to the primary account holder in full and on time.
How to Establish Good Credit History
Your credit score is dependent on a variety of factors including your payment history, your total debt balance, new credit, length of credit history, and credit mix. You can help ensure you are building a good credit history by following these simple tips:
Make All Your Credit Payments on Time
If you are making your minimum payments on time each month for all credit accounts, your payment history should be good. If you are frequently late, don’t pay the minimum due, or even skip payments altogether, your payment history could be negatively impacted.
Pay Your Credit Card Balance in Full Each Month
A major factor of your credit score is your credit utilization rate. To calculate your credit utilization rate, divide your current outstanding credit balance (what you owe) by the total amount of all your credit limits. The resulting percentage is your credit utilization rate. The lower the percentage, the better. Many financial experts recommend having a credit utilization rate that is less than 30 percent. Paying off your credit card balances in full each month will help keep your credit utilization rate low and help to improve your credit score.
Don’t Have Too Many Credit/Loan Accounts Open at Once
It’s tempting to apply for various credit cards, including retail credit cards, to get a special bonus or a “deal” on your purchase. But doing so could negatively impact your credit score, especially if you are new to credit and/or open several accounts in a short amount of time. Creditors view having too many credit cards or loans as risky, and it can negatively impact your credit history.
Don’t Close Too Many Credit Accounts at One Time
Keeping credit accounts open and managing them well over an extended period can improve your credit score. Opening several new accounts can hurt your credit history because doing so adds several accounts to your profile that have been open only a short time. Closing existing accounts can hurt it too because you are removing accounts from your profile that have been open and contributing to your credit score.
Monitor your credit score
Establishing and maintaining your credit starts with knowing where you stand. Therefore, it’s important to view your credit report at least once per year. Doing so also helps protect against identity theft by providing you with the opportunity to potentially catch fraudulent or suspicious activity that may affect your score. Per the Fair Credit Reporting Act (FCRA), you may order one free copy of your report from each of the credit reporting companies, at least once every 12 months. You can request these copies of your credit report each year by visiting annualcreditreport.com.
How Long Does It Take to Build Credit?
There is no set timeframe to how long it takes to establish credit. Establishing and maintaining good credit is a journey, not a destination. Your credit score is constantly changing based on how you are using and repaying your loans. The sooner you start using credit responsibly, the sooner your history will be sufficiently established should you need a loan or other credit in the future.
If you have questions about building your credit or any of your banking needs, a Personal Banker from FNBO would be happy to answer them. Give us a call today.
The articles in this blog are for informational purposes only and not intended to provide specific advice or recommendations. When making decisions about your financial situation, consult a financial professional for advice. Articles are not regularly updated, and information may become outdated.