Building good credit can help you achieve your financial goals by giving you access to credit and by making it cheaper to borrow money. A significant part of building credit is knowing the best ways to go about it.
Key Takeaways:
- Building credit is an important way to demonstrate to a lender that you are a responsible borrower.
- Good credit can help you get approved for a mortgage with a competitive interest rate.
- You can build good credit by using a credit card or taking out a loan and making on-time payments.
What Is Credit?
Credit is the ability to take on debt with the expectation it will be paid back. The history of your credit use is in your credit reports created by the three credit bureaus: Experian, Equifax and TransUnion. Your credit reports can vary slightly between bureaus. These reports track your open accounts and document your payment history, including everything from late payments to bankruptcies.
Your credit score is calculated to sum up your credit history in a three-digit number ranging from 300 to 850. It offers a glimpse into how well you manage your debt. As with credit reports, each bureau assigns a different score based on how they weigh your credit information, so you may have some variance between them.
In general, FICOscores are the most influential. These scores are determined using a scoring model by the Fair Isaac Corp.
Why Is Building Credit Important For Buying A Home?
Building credit is as important as saving for a down payment because it signifies your financial stability and responsibility. Lenders use your credit history to gauge how much risk you pose as a borrower when it comes time to repay your loan. Whether you’re getting an apartment, buying a house, or financing a car, saving money and having a good credit score can not only help you secure the loan or lease, but it could help you get a better deal.
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What Is A Good Credit Score?
Most financial institutions regard a FICO score of 620 as good credit and 740 or higher as excellent credit. With a score of at least 620, you’re typically considered in good financial standing. The higher your score, the easier it will be for you to find lenders and credit card companies to work with. Plus, you may receive other perks with a higher score, like a lower interest rate or higher credit limit.
Credit Score Ranges
| Credit Score | Classification |
|---|---|
| 800 – 850 | Excellent credit |
| 740 – 799 | Very good credit |
| 670 – 739 | Good credit |
| 580 – 669 | Fair credit |
| 300 – 579 | Poor credit |
How Long Does It Take To Build Good Credit?
How long it takes to build credit will vary from person to person, but establishing an initial credit score takes at least six months. Once you have a credit score, you may be able to improve your credit score in as little as one to two months.
How long it takes to build your credit can also depend on where your credit score stands. If your score is in the 600s and you want to improve it, making consistent payments and reducing how much you owe is your best move. You could see your score grow quickly.
However, if you have negative strikes on your credit report, they will stay on your report for up to 7 years. While late payments knock your score down, major issues like foreclosure or bankruptcy can leave a dent. If you have something like that on your credit report, you need to slowly and deliberately build your credit.
How Can I Build Credit Fast?
If you want to buy a home and need to build or improve your credit, there are steps you can take. For example, you can get a secured credit card and make on-time payments. It will take at least a few months before you’ve established that you’re a reliable borrower, but once the card is open, you’ll also be growing your length of credit history. Another option is to take out a credit-building loan and pay it back quickly. These types of loans are specifically designed for borrowers looking to build credit and are typically for small amounts with a short term.
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5 Ways To Build Credit Using A Credit Card
Credit cards can be used to build good credit, but they must be managed carefully since using them irresponsibly may drive your credit score down. When building credit, you’ll want to make on-time payments as well as the minimum payment that’s due for the credit card.
1. Apply For The Right Kind Of Credit Card
Look for a card with no annual fee that reports to the three major credit bureaus. Ideally, you won’t need a low interest rate because you’ll pay the card off monthly. Interest only comes into play if you carry a balance into the next month.
Those without a credit history or bad credit may need a secured credit card. These cards are secured with a deposit you pay, which is typically at least $200.
2. Become An Authorized User On A Credit Card
If you’re having trouble qualifying for your own credit card, you can become an authorized user on a friend or family member’s card. This allows you to make purchases on the card without being responsible for the payments – though you should pay your authorized user for charges you make on the card.
But this is only a good idea if you trust the cardholder to pay on time. Why? When the primary user of the card pays their bill each month, this payment will also be reflected on your credit report, boosting your score and theirs. On the flip side, if the cardholder misses payments or makes them late, it could hurt your credit.
3. Make On-Time Payments
Lenders want to know you’re capable of making timely payments, so the importance of making on-time payments cannot be understated. Missing payments will negatively impact your score, so when making purchases with a credit card, you should always know exactly when and how you’ll be able to make your next payment. Your payment history has the most significant impact on your credit score. Making on-time payments can help you build good credit, while late or missed payments can leave you with poor credit.
4. Pay Down Credit Card Balances
Going into debt can damage your credit, as how much you owe constitutes 30% of your credit score. That means using too much of your revolving credit can drive down your credit, but keeping your credit utilization ratio low can improve your credit score.
5. Ask For Higher Credit Limits
Another way to reduce your credit utilization ratio is by asking your lender to increase your credit limit. Even if you still owe the same amount, the percentage of your available credit that you’re currently using will be lower. However, just know that requesting a credit line increase can result in a hard inquiry and temporarily dent your credit score.
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7 Ways To Build Credit Without A Credit Card
If you don’t have a credit card or don’t want one, there are other ways to build credit.
1. Take Out And Repay A Loan
Instead of using a credit card, you can build credit with a personal loan, auto loan or credit-builder loan. The point is that, with a loan, your regular monthly payments show your ability and commitment to repay your debt.
With a personal loan, you’ll receive a lump sum at a fixed rate, which you can use for various purposes. Debt consolidation, home repairs and medical expenses are just some of the things people use personal loans for.
2. Make Student Loan Payments
If you have student loans, they can be used to build your credit without a credit card. Simply pay them on time every month. If you have multiple student loans, you should prioritize paying off the ones with high interest first.
3. Consider An Auto Loan
A car loan is another way to build credit without a credit card. That’s because car loans typically have longer terms – an average of six years. Be aware, though, that longer terms come with higher interest rates. So, while your monthly payment may be less, you’ll pay more interest over time.
4. Get A Loan With A Co-Signer
When you take out a loan with a co-signer, another party agrees to accept responsibility to repay your debt if you cannot. This reduces the risk posed to the lender and makes it more likely for your loan to be approved.
5. Repay An Existing Loan
Your payment history accounts for 35% of your FICO score, which makes it the most influential factor in building good credit. If you’ve already taken out a loan, making on-time payments and reducing your total debt or getting out of debt altogether can show a lender you’re a responsible borrower.
6. Get Credit For Making On-Time Rent And Utility Payments
You may be able to get credit for making on-time rent and utilities payments. There are services available that report these on-time payments to all three credit bureaus. Just know that these rent-reporting services often come with a monthly fee.
7. Dispute Credit Report Errors
You can request free weekly reports from all credit bureaus using AnnualCreditReport.com. If you find any errors, you can dispute them directly with Experian, Equifax or TransUnion.
FAQ
Here are answers to some common questions about building credit.
– Apply for a secured credit card.
– Become an authorized user on someone else’s card.
– Use a credit-building debit card.
– Apply for a credit-builder loan.
– Have your rental payments reported to credit bureaus.
The Bottom Line
Your credit is the foundation for any future credit or loan application. Lenders are more likely to approve your loan application if you have a history of paying your debts on time. Having good credit can also help you score a lower interest rate, which can lower your monthly payments and reduce the overall cost of your loan. Building good credit can help you save thousands of dollars over the life of your mortgage.
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Victoria Araj contributed to the reporting of this article.
Rory Arnold
Rory Arnold is a Los Angeles-based writer who has contributed to a variety of publications, including Quicken Loans, LowerMyBills, Ranker, Earth.com and JerseyDigs. He has also been quoted in The Atlantic. Rory received his Bachelor of Science in Media, Culture and Communication from New York University. He also completed the SoFi/Coursera Fundamentals of Personal Finance Specialization consisting of five courses: Introduction to Personal Finance, Saving Money for the Future, Managing Debt, Fundamentals of Investing, and Risk Management in Personal Finance.
