How to Build Your Credit

Unsecured Personal Loan

[Photo Credit: Flickr / Mighty Travels]

While paying for everything with cash or debit cards is doable if you have the funds, establishing credit is important when it comes to future purchases that you won’t be able to pay using cash.

It is important to establish a credit history for a variety of reasons:

  • If you need a loan at some point, you will receive better interest rates if you have a good credit history because the lender will assume you to be of less risk.
  • If you are financing a house or a car, or financing a very large purchase (such as furniture or buying a pool), having established credit will be important.
  • If you rent an apartment, a landlord will trust you more if you have a good credit history than if you don’t.
  • Insurance companies can use your credit rating to determine a rate to offer you.
  • A potential employer is able to check your credit (they will not see your actual score) if you give them written permission to do so.

The Process of Building Your Credit

If you are under 21, you can become an authorized user on your mom or dad’s credit card. If they have good credit, you can get your own card under the same account as them. All of your activity will be reported on your mom and dad’s credit report and on yours.

If you are over 21 and are having issues getting your first line of credit, applying for a secured credit card may be your best bet.

A secured credit card functions like a credit card, except that you place a deposit for the card as collateral. If you were to put down a $500 deposit, your available line of credit will likely be $500 (assuming you have enough income to pay off the card).

You would use this credit card for everyday purchases, and pay off the card as if it was a real credit card.  If you were to default on your payments, whoever issued you the card may keep the deposit that you initially made.

This behavior is reported to credit agencies, and if you can successfully use this type of card, over time you should qualify for a credit card.

Once you are able to qualify for a credit card, use it responsibly. Don’t use more than 25% of your available credit, and do your best to pay your bills in full. Most importantly, make sure you are making your payments on time!

As long as you are patient, you will see that your credit limit on your card will rise, your credit score will become existent, and you will start to qualify for additional credit cards or obtain good interest rates on other purchases you may make. Being able to responsibly manage different kinds of credit (a credit card, a car payment, a loan payment) will also help increase your score. You can slowly begin to incorporate these into your credit mix as time goes on and your score rises.

Be careful though and don’t overdo it, as you only need to have a few credit accounts to demonstrate that you are responsible.