“The secret of getting ahead is getting started.”
– Mark Twain
Have you ever noticed how companies brag about how long they’ve been around?
Restaurants, banks, construction companies…they include ‘Est.’ in their logos and proudly announce the first year they opened their doors.
Because they want to give you a sense of enduring quality…and more importantly, consistency.
If a business has managed to survive for decades, it implies that they have been able to keep loyal customers coming back. And they want you to become a loyal customer too!
That’s sort of how credit works. What makes a good credit score is a long history of consistent, regular payments on debt, which reassures lenders that you will make consistent payments in the future.
But what if you don’t have a long credit history?
What if you don’t have any credit history?
Don’t worry! There is never a better time to start building credit than today. Here are three ways to jumpstart your credit profile and keep it climbing.
#1. Borrow money and pay it back on time.
To build credit you have to borrow money.
Once you do, your payment history is reported to the big three credit monitoring bureaus—Equifax, Experian, and TransUnion—who build reports that other lenders can look at when considering giving you a loan.
The longer and more consistent your payment history, the better it looks. Just like happy customers are good for business, happy creditors are good for your score!
Now some of you might be thinking ‘Wait a minute, you need credit to borrow money. How can I borrow money to build credit when I don’t have any credit to begin with?’
Luckily, there are options out there to jumpstart your credit score even if you’re starting from 0.
One option is a Credit Builder loan.
These are typically small loans (a couple hundred dollars) that a bank or credit union will put into a secure savings account. You make small, regular payments on the loan until it’s paid off, and then the lender will transfer the lump sum to you.
Keep in mind that like other types of loans, a credit builder loan will typically have fees and interest associated with it, though these should be minimal.
If money is tight, a credit builder loan is a great way to start taking baby steps toward building credit.
Another way to build credit from the ground up is with a starter credit card.
Many financial institutions will offer a low-minimum credit card for applicants with little to no credit. And unlike the credit builder loan, where you have to wait to receive the money at the end, you can begin using the card right away and build up credit by paying off the balance over time.
But be careful! Starter credit cards often carry very hefty interest rates—so use them sparingly, and pay off the balance in full every month.
If you’re a student whose parents have a good credit score, you could also co-sign on a credit card.
This might allow you to get a credit card with a higher minimum and lower interest rate, and even if someone else is making the monthly payments, you will still benefit from a credit history standpoint. However, make sure your parents know that if you don’t pay off your debt it will be their responsibility to not only pay it off but potentially have their credit dinged.
#2. Keep the balance under control.
The number one rule of credit is this:
Only borrow what you can pay back!
Once you’ve started to build up your credit score, lenders will take notice. Keep in mind that they want to loan you money, so they can earn interest…and if you’ve proven that you can make consistent payments, you’re a perfect candidate!
Credit cards, mortgages, vehicle loans…you’ll be approved to borrow much, much more than you can realistically afford to pay back.
The average American family carries around $135,000 in debt, $7,000 of which is revolving credit card debt. On top of that 1 in 11 say that they don’t think they will ever be completely free of credit card debt. Don’t fall into the debt trap!
Remember that success is about balance. Figure out how much you can afford to spend on a monthly basis—AFTER doing things like saving for retirement—and then whatever is left over can go towards debt payments.
You might not be able to get the dream house you want right away…but nothing will ruin your credit faster than missing payments or defaulting on a loan.
This is especially true for credit cards, since they often carry a high interest rate compared to other types of loans. Credit card debt can spiral out of control in no time if you don’t pay off the balance on a regular basis.
If you can’t pay it all off, don’t ever let the balance drift above 30% of your credit limit. Your credit score could suffer.
Just because there is money available that you could spend doesn’t mean you should!
#3. Be cautious when opening new accounts…
We’ve mentioned several great options for building your credit score up from zero, but they all have one thing in common: they take time.
If you’re impatient like I am, you might think ‘hey, if I open two or three of these accounts at once, that will build my credit twice as fast!’ Right?
Let me tell you…definitely not!
Here’s why. Every time you apply for new credit, the lender will pull your full credit report from the credit bureaus I mentioned earlier. This is called a Hard Inquiry and it’s visible to other lenders.
When lenders see multiple Hard Inquiries back-to-back, they know that you have added additional debt in a short period of time.
And that makes them nervous!
Their primary concern is getting their money back, and the more debt you add at once, the higher the likelihood that you will stop paying on at least one of those loans.
Have you ever had a favorite local restaurant that tried to grow too fast, opened up a bunch of new locations at once, and failed because they couldn’t maintain the same quality as before?
Don’t stretch yourself too thin. Apply for new credit sparingly. Your score will go down in the short term, but after several months of regular payments, it will go back up again.
#4. …and when closing accounts, too.
Now, let’s fast forward a couple years into the future.
You’ve been managing your credit well, paying on time, never taking out more than you can reasonably pay back. At this point you’re a credit pro with an excellent score.
You’re thinking it’s time to let go of that starter credit card and move on to something with a better interest rate. You haven’t opened a new account in a while, so you’re not worried about the Hard Inquiry. It’s as simple as closing out the old card and opening a new one, right?
Not so fast.
Although that old card might not suit your needs any more, it’s still valuable.
You worked hard to establish the credit history on that account, and as soon as you close it, you’re starting all over again.
Even if you don’t use it much, keep the account open with a minimal balance that you can easily pay off each month. This doesn’t mean you have to keep every card you’ve ever used—but if you’re choosing which to keep and which to toss, keep the one that has been open the longest.
The longer the account stays open, the longer your credit history, which is the whole point.
“It’s not what we do once in a while that shapes our lives. It’s what we do consistently.”
– Tony Robbins
A good credit score is like a good reputation. It takes months—even years—of consistency to establish yourself as a credible borrower.
Follow these steps and in time, you’ll find yourself with a credit score to be proud of!
Join my Email Insider Group. Sign up to receive weekly tips and tricks on finance, education, home buying, insurance, Social Security and everything in between. Click HERE to become an Insider! Byron W. Ellis, CFP®, CLU®, ChFC®, CRPC®, is a CERTIFIED FINANCIAL PLANNER™ professional and Managing Director United Capital Financial Advisers, LLC, a Financial Life Management firm. The information contained in this article is intended for information only is not a recommendation, and should not be considered investment advice. Please contact your financial advisor with questions about your specific needs and circumstances.
© Byron Ellis