6 Steps of How to Build Credit
It's no secret that a good credit score opens a lot of doors. People with good credit find it easier to access personal loans, mortgages, credit, and even banking services. However, building credit is something that millions of people feel they’re unable to do. Since your credit score comes from your credit history, i.e. taking out a loan, building good credit can seem tricky if you don't have a high enough score to take out a loan in the first place.
However, as I will show you, anybody can start from scratch and build their own perfect score in no time. Read this simple and straightforward 6-step guide to find out exactly how.
Step 1 - Get a Credit Card
At the end of the day, the best way to build credit is to get your own credit card and start building up your score from scratch. Of course, there are other ways to build credit, such as applying for credit building loans, but this is the most accessible way to start. If you're eligible, you can use an unsecured credit card that will allow you to make small purchases, as long as you promise to pay the money back promptly.
However, you typically need a stable income and at least some credit in order to qualify, so you may be best off applying for a secured credit card, which will require you to put down a cash deposit to access the credit. If you're a student, no-strings-attached student credit cards are a great way to get started.
Step 2 - Use the card for small purchases
Once you have your card, a way to build good credit is to simply make small purchases with the card and then pay off the balance before the end of the month. The trick here is to make purchases that you know for a fact you can pay off with money sitting in your bank. It could be as small as an item of clothing. Even better is to use it for a regular expense, such as a utility or phone bill. As long as you start small, you will be able to steadily build your credit score. Anyone wondering how to get credit should follow this simple strategy.
Step 3 - Pay bills on time!
The key to learning how to start building credit is to be responsible and prompt with repayments. Always pay off your credit card bills as quickly as possible. Not only will missing a payment result in your credit score going down, but it will also result in you paying more money in interest. Remember that beginner credit cards typically charge eye-watering interest, meaning that every missed payment could leave you seriously out of pocket. Set up phone and email reminders to make sure you never miss a payment.
Step 4 - Apply for different types of loans later on
If you want to know how to build your credit more quickly than the credit card route, then applying for loans is the best way to go. Once you’ve used your credit cards to build up a reasonable amount of credit, you’ll be eligible for low and standard-credit personal loans, auto loans, and many other types of credit-based financing.
For those just starting out, the best way to improve credit score stats is to take out credit builder loans. These loans are specifically designed to help you build credit and nothing more, and are often backed by banks, credit unions, and CDFIs. They work by arranging a loan that is placed into the account of the lender, not the borrower (you).
You then set up a rate of monthly premium payments to 'pay off' the loan amount. Once you have paid out the full equivalent balance, the loan money is transferred to your account.
It's a low-risk way to build up your credit score quickly, as well as teach you some invaluable lessons on financial responsibility. Once you’ve done this, you can use your newfound credit to start applying for more standard loans, such as personal loans and auto loans. With your new credit and repayment history behind you, you should be able to meet your loan obligations more easily.
Step 5 - Keep your outstanding balance as low as possible
With both credit cards and credit loans, learning how to build good credit requires a strong understanding of the importance of low balances. Your 'balance' is how much you have to pay on your monthly credit card bill. With most credit cards, if you can't afford to pay one month, you can carry the balance over to the next month. However, this simply means that the amount you have to repay next month has doubled.
If you’re in a similar financial situation the next month, and the month after that, you run a serious risk of falling into a debt trap that can be difficult to escape. I've learned that this can easily be avoided by simply prioritizing your outstanding balance before anything else. Figure out your current debt to income ratio so that you know exactly how much you need to be dedicating to your repayment obligations. Doing this will keep you on sound financial footing.
Step 6 - Check your credit report yearly
Finally, the best way to stay motivated when building credit is to check your report whenever you can. While accessing your report is not always easy, there are a number of sites that allow you to check it for free, at least once a year. Checking your credit score will give you a good idea of the kind of progress you're making, as well as letting you know where you might be going wrong. The goal is to be able to see your credit score steadily rise every year. If this is the case, then you know that you are on a solid path to financial freedom and independence.
With these six straightforward steps, you'll be able to build up a perfect credit score, no matter what your current credit situation might be. Just remember to follow an approach that’s manageable and be patient with your credit building journey.