As you go through the college years and into your early working career, it is important to take steps to build a good credit rating. You may think that you start with a great credit rating and take positive steps to avoid dropping it, but in reality, you start with a relatively poor score and take positive steps to build it up. Just as you would not lend money to anyone you do not know, a credit card company is not going to extend credit to an unknown risk.
So how do you build a good credit rating? Here are five steps to get you started.
1. Get a Credit Card – It seems obvious, but the only way to build up credit history is to get a card, use it, and pay it off promptly. If you want more credit, check out MoneyTips' list of credit card offers. "You can build your credit score very effectively by opening up credit cards and then paying the balance in full at the end of the month," says Bankrate.com Chief Financial Analyst Greg McBride. "You do not need to carry a balance – particularly at a high interest rate – in order to build your credit rating."
You can start with a secured credit card, which is issued upon pre-depositing money with an issuing bank. The bank then uses your deposit as the credit limit. After some time with a good payment history (typically one year), the card converts to unsecured, and the credit limit may be raised. Check with the issuing bank to make sure that the use of this card is reported to the credit agencies.
You can also start with a specialty credit card, such as a department store or gas credit card. Keep the credit limit low on any unsecured card to limit the potential for impulse buying. Gas cards are really useful to avoid most impulse buying – if you are tempted to make large impulse purchases at the gas station, you have other issues to deal with.
Start with one, or at most two, credit cards. Too many lines of credit are a concern to potential lenders, whether you use them or not.
Another approach is to be added as an authorized user on the credit card of someone with good credit (such as your parents, if they are willing). We should not have to tell you to be careful with your spending on that card, but we will anyway.
2. Pay Everything Promptly – It is important to pay everything promptly. Credit card bills are obviously important but so are bills such as rent, cable TV, and utilities. Paying monthly bills on time does not build your credit score, but missing monthly bill payments will reduce it.
3. Keep Credit Utilization Low – Credit utilization is the amount of total credit you have available compared to the amount you use. Try to keep your balance as small as possible. Rod Griffin, the Director of Public Education for credit bureau Experian, shares that "people with the very best credit scores have utilization rates of less than 10%." Do not spend more than you can pay off at the end of the month – the objective is to make small manageable payments to prove that you can use credit responsibly.
4. Keep Old Accounts – Do not close an unused card. Closing one will automatically raise your utilization ratio by reducing your total amount of available credit. "Generally, when you close a card account, it's going to hurt your credit, because it's decreasing your overall credit line, which basically signals [that] a bank trusts you less," explains Nerdwallet Credit and Banking Expert Sean McQuay. "It's also decreasing your average history of accounts, so it's saying you have had less history dealing with banks."
5. Get a Manageable Loan or Installment Purchase – Purchase of a used car, furniture, computer, or any other large item that can be paid on an installment plan is helpful in two ways – it utilizes a different type of credit compared to credit cards, and it gives you another manageable set of monthly payments. Again, the key word is manageable. If you overspend, you will be sending the credit agencies the exact opposite message of what you want.
With some planning and wise spending habits, you can build a stellar credit history for the larger purchases later in life, such as a mortgage. You can check your credit score and read your credit report for free within minutes using Credit Manager by MoneyTips.