How to Build Credit
If you are young and have ever tried to get a credit card, bank loan, auto loan, or some other form of credit you have undoubtedly encountered rejection. You have probably also encountered one of life’s paradoxes: it’s nearly impossible to get credit if you do not already have credit. There are, however, a few things that you can do to overcome your credit struggles…
Pay Your Bills on Time!
This seems like common sense but it applies to more than just credit cards and loans. Expenses like your utilities, cell phone, and cable bill may show up on your credit if you do not pay on time. Paying on time also has the added advantage of avoiding late fees.
Open a Checking Account and Savings Account
Having a checking and savings account is important for many reasons but for our purpose it shows financial history and stability.
If you do not already have an established relationship with your local banker (everyone should. Trust me, it will come in handy!) Now is the perfect time to do so. Opening an account is a great way to start a relationship since the person opening the account usually gets a commission.
Get a Loan from Your Local Bank
As you already know, getting a loan without good credit is almost impossible but, now that you have an established relationship at your local bank (see above), there is a way:
- Save up some money. Anything from $1000 up should work. (use income tax returns or bonuses)
- Put said money in a CD at your local bank.
- Using the CD as collateral, take out a secured loan for the full amount of the CD (or the max allowed). On average, with this method a $1000 loan will have a monthly payment of about $100 for 12 months.
- Put the money that you receive from the loan into a high yield savings account and let it draw interest as you use it to make the monthly payments.
- Pay on time, but do not pay off early! The point here is to establish credit history
Secured Credit Cards
With a secured credit card your credit limit is determined by the amount of money you “deposit” — usually between $300 and $5000. It’s kind of like a debit card that shows up on your credit report. There are a few things to keep in mind when applying for a secured credit card:
- Always avoid high interest rates, excessive application fees, and expensive annual fees!
- Make sure that the company reports to all three credit bureaus. If not the card is useless for you.
- Never carry a balance! Pay in full each month.
- Do not charge more than 30% of your credit limit. If your limit is $1000, do not charge more than $300.
- After about a year of proper payments you should be able to apply for a non-secured credit card.
- A good place to check is your local bank or credit union.
Retail Cards and Gas Cards
Since they are usually easier to get than “standard” credit cards, gas cards and retail store cards are a popular choice for those lacking credit. If used with caution these cards can work to your advantage. If abused then they will wreak havoc on your credit score.
- Apply for a card at the gas station and store that you frequent the most.
- You should never open more than two of these accounts at the same time. So, either get one gas card and one store card, or some other combination of two…No more!
- Only use these cards for purchases that you would normally make! Do not buy those nice new shoes, or those $300 jeans and try to justify it with “building your credit!”
- Immediately after making purchases with these cards you should earmark, or set aside, the money to pay for it. Either do this in your budget or physically withdraw the cash and put it in an envelope.
- Never carry a balance! Pay in full each month.
Too Many Accounts
If you have too many open accounts, or lines of credit, you take the risk of actually hurting your credit rather than helping it. For most lenders, if you have many open lines of credit you may be seen as unstable, and therefore a credit risk.
- Start with one or two lines of credit. Maybe take out a loan and get a gas card. Maybe get a gas card and a card at your favorite store.
- After you have had these two accounts for at least six months then open another one. Don’t go crazy, we are trying to avoid many open (unused) lines of credit
- Remember that even when you are simply applying for these lines of credit you take the chance of hurting your credit. For more information see Hard Credit Pulls vs. Soft Credit Pulls
No More Piggybacking…
One way that people used to build credit was to “piggyback” off of someone who has good credit. Piggybacking is when someone with good credit authorizes you as a user under their account. By doing this you automatically inherit that person’s good credit. The problem with this is that credit card companies blindly accepted these authorized users without checking them out. Because of this, people found a way to profit from this technique by offering it as a “service”
As of late 2007, credit bureaus will begin to ignore these authorized users, so this trick may become null and void.
Slow and Steady…
The tortoise, the hare…you remember the story. Building your credit takes time. it cannot be done overnight, in a week, or in a month for that matter. Be persistent! Development and maintain good payment and other financial habits and before you know it your credit will reap the rewards of your effort!
