How to Build Credit

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Having a good credit score is vital for many reasons. A good credit score can help you get approved for loans, credit cards and mortgages. It can also help you get lower insurance rates.

In fact, having a good credit score can even make the difference in whether or not you get a job. But what if you don’t have any credit? How can you go about building a good credit score?

Steps to Start Building Credit

Here are some steps you can take to build your credit and establish your creditworthiness:

Understand How Credit Works

The first step in building credit is to understand how credit works. A key component in whether or not you are considered creditworthy is your FICO score. The FICO score is a score issued by The Fair Isaac Corporation that helps define the creditworthiness of an individual.

Banks, lenders, and credit card companies use your FICO score to determine whether or not they will lend you money. You will also have credit scores issued by each of the three major credit bureaus: Experian, TransUnion, and Equifax. Those scores are based on your FICO score. Each bureau’s score will vary slightly because of differences in the way they compile information on you. But they’ll all be similar in range.

FICO scores range between 300 and 850. Depending on your FICO score, you may be considered a poor credit risk, fair credit risk, good credit risk, very good credit risk, or exceptional credit risk.

FICO Score Ranges Rating Description
Lower than 580 Poor Your score is well below the average score of U.S. consumers and demonstrates to lenders that you are a credit risk.
580-669 Fair Your score is below the average score of U.S. consumers, though many lenders will approve loans for people with scores in this range.
670-739 Good Your score is near or slightly above the average of U.S. consumers. Most lenders consider this a good score.
740-799 Very Good Your score is above the average of U.S. consumers and demonstrates to lenders that you are a very dependable borrower.
800 or higher Exceptional Your score is well above the average score of U.S. consumers and clearly demonstrates to lenders that you are an exceptional borrower.

Source: myFICO

The higher your FICO score, the more likely lenders are to lend you money.

Your credit score from FICO and from each of the three major credit bureaus is based on a variety of factors including:

  • Your payment history and any incidence of late payments
  • The length of time in which you’ve had each loan/credit card
  • The percentage of loans vs. credit cards in your name
  • Your credit utilization ratio: credit available to you vs. how much of that you’re currently using
  • The number of new credit accounts you have opened recently (having some new accounts is good; having too many is not good)

The Fair Isaac Corporation and the three major credit bureaus analyze this information regularly and raise or lower your credit scores based on that information. When taking steps to build credit, keep these factors in mind.

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Know What You Need to Do to Establish a FICO Score

The Fair Isaac Corporation has certain guidelines that need to be met in order for you to establish a FICO score:

  • You must have at least one credit account open for six months or more
  • At least one of those accounts has to have been reported to the credit bureau in the past six months
  • There must be no indication that anyone listed on your report is deceased (for instance, if you opened a joint account with an elderly person and they passed away)

Your job is to take the necessary steps to build your credit score to a good or better rating. Note that even if you have no history of credit use, you can end up with a negative credit rating for something like failure to pay child support.

To know where you’re starting out, you should get copies of your credit reports from the three major credit bureaus.

Get Copies of Your Credit Reports

Experian, Equifax, and TransUnion offer one free copy of your credit report each year through the website AnnualCreditReport.com.

When you go to the site, just fill out the prompts to request a free of your credit report from each company. Note that, if you are brand new at building credit or have a limited credit file, this website may ask you to request your credit reports by mail.

You can use one of these methods of getting your credit score for free as well.

Keep in mind that if you have no history of loans, credit cards, or unpaid bills, you may not have a credit score at all.

Choose Ways to Raise Your Credit Score

Now that you’ve got your credit score and know where you stand, here are some steps you can take to establish or raise your credit score.

1. Open a Secured Credit Card

You can build credit by applying for a secured credit card. A secured credit card has a credit limit equal to the amount of money you put into a designated savings account.

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That money serves as collateral in the event that you default on a balance owed on the card. You are not allowed to withdraw money from the designated account as long as the credit card is tied to it.

While those with zero or limited credit may not be able to get a traditional credit card, anyone can get a secured credit card because there is no risk to the lender.

Once you get a secured credit card, it’s important to use it regularly. I suggest making small purchases with it each month and then paying off most (but not all) of the balance each month.

Be careful not to accumulate too large of a balance. But ironically, having “a” balance on your credit card, as opposed to “no” balance, will help build your credit score.

2. Get a Credit Builder Loan

A credit builder loan is akin to a secured credit card only in the form of an installment loan.

Companies such as Self help you build credit by making you a secured loan. You make “payments” each month to Self, and the company reports that to the credit bureaus.

The loan payments you make are put into a Certificate of Deposit earning a small amount of interest. At the end of the loan term, you get your payments back along with the interest they’ve earned.

Getting this kind of loan isn’t free; see the Self website for terms. But if you choose a small loan amount, the costs will be minimal and you’ll help yourself build a credit score.

3. Get a Loan With a Co-signer

Another option for building credit is to get a loan with a co-signer. A loan co-signer is typically a parent or other person close to you who agrees to pay off the loan if you default.

If you are late making a payment or miss a payment, not only will your credit score be damaged but so will the credit score of your co-signer. So it’s especially important to make your payments promptly if you choose this method to build your credit.

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4. Become an Authorized User on Someone Else’s Credit Card

You’ll need a helper for this method. Typically a parent can name you as an authorized user on his or her credit card.

When you become an authorized user on someone else’s credit card, that doesn’t mean you have to use the card. As long as the primary owner is using and paying on the card regularly, you’ll get the benefit of good reporting on your credit.

Before you take this step, be sure to verify that the credit card and credit score of the person you’re joining forces with are solid. You want to choose a person who has a good credit history and has used a credit card for a long time.

And be sure the credit card issuer reports to the three major credit bureaus. If it doesn’t, becoming an authorized user on someone else’s credit card won’t help you.

Be Patient

Now that you’ve taken one or all of the steps suggested here to build credit, it’s time to be patient. It can take six months or more to build and establish a good credit score.

Continue to use the credit available to you, and make the payments on time. Also remember to keep a small balance on each credit card to show continued responsible use.

After several months have passed, check with one or more of the sources mentioned above to see how your credit score has changed.

Final Thoughts

Building your credit — especially when starting from scratch — takes time, effort and patience. But when you build credit correctly, it can benefit you in the long run in many ways.

From getting the best rates on future loans, to getting the best insurance rates, to putting yourself at the top of the list for that dream job, building a good credit rating is well worth the effort.

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