Want to buy a car? Lease an apartment? Get a mortgage for a house? You’ve probably heard this before, but in order to take out a loan for any big purchase, you’ll need to have a good credit score attached to your name. We touched on this in our piece on understanding credit, but if you’re still confused, let’s elaborate some more.
Put simply, a credit score is a number between 300 and 850 that’s created based on your spending habits. A high score (anything over 700) shows banks and lenders that you’re responsible with money and they can therefore trust you with a loan. Thus, the higher the score, the better your credit.
A low score tells banks they might not be able to trust you with a loan, since you might not be the best at managing money. And that means it might be harder for you to take out a loan or you might get hit with a higher interest rate (the fee the lending company charges you for allowing you to borrow the money) on loans and credit cards.
So, let’s review:
Good credit = Save money, get approved for loans, buy all the things.
Bad credit = Potential for more debt, struggle to get a loan, live in your parents’ basement the rest of your life.*
*We’re totally kidding. But it could happen.
In all seriousness, even if you do have a low credit score (e.g., you opened a credit card and missed a few payments), don’t fret: It isn’t permanent. You can still work to get it higher by developing healthy credit habits.
“If you don’t have credit history, how’s a bank to know whether you know how to handle credit?” says Dr. Jodi Letkiewicz, an assistant professor at York University in Ontario, Canada, who teaches, researches, and publishes in the areas of consumer finance, financial planning, and financial well-being. “The earlier you start, the sooner you’re building this component of your credit score.”
Achieving a good credit score isn’t as hard as you think. Keep these tips in mind for building up and up.
6 key tips for building your credit score
1. Always pay your bills on time.
“The key is to fully pay off your credit cards, on time, every month. That’s how you’ll build a great credit score,” says Kelly DiGonzini, senior financial planner at Beacon Pointe Advisors in California. Late payments or defaults (not paying at all) will have a negative impact on your credit score.
2. Keep your balance low and your available credit high.
That means trying to keep your balance to less than 30 percent of your available credit, if you can (there are no hard-and-fast rules, but this number seems to be the expert-recommended consensus). For example, if your credit card has $1,000 available, keep your balance under $300.
3. Establish a long history.
Avoid closing old credit card accounts (as long as they don’t charge an annual fee) even when you don’t use them anymore. You can just tuck that credit card away in a drawer so you’re not tempted by it. The longer you have accounts open, the more history you’ll have.
4. Avoid frequently opening new credit lines.
This affects the average time your accounts have been open (see point 3 above). Plus, every time you apply for new credit, it negatively affects your score and stays on your report for two years. This only makes up 10 percent of your score, so don’t worry about it too much, but avoid applying for every credit card or loan out there.
5. Establish a credit mix.
Lenders like to see you use different types of credit, such as a credit card, student loan, and a home mortgage—it shows that you’re a responsible borrower. (If you’re just starting out, keep this in mind for the future.) In general, just aim for responsible credit use.
6. Follow up before and after a missed payment.
If you’re finding it difficult to make your payment or you missed a payment, immediately contact the lender and discuss it with them. They may be willing to work with you to come up with a repayment plan, and this can limit the damage to your score. The process is pretty straightforward, so don’t let it stress you out. “As long as this doesn’t become a regular habit, it won’t affect your credit score,” says Dr. Letkiewicz.
Students share their tips on building credit
“Don’t get a credit card to use as ’emergency money.’ Get a credit card only if you have steady income with some savings. This way, you can use the credit card to make purchases, but you can immediately balance the card with a bank transfer.”
—Jordan N., second-year graduate student, Portland State University, Oregon
“Get a credit card, but charge only what you can pay off (gas, food, etc.), and pay it off on time, every month.”
—Nicole G., fourth-year online student, Empire State College, New York
“I got a checking and savings account along with a credit card from my bank. Use the credit card to build credit, but be wary of getting into debt. They increased my spending limit to $1,600, and I’m in the hole for almost the entire amount.”
—Alejandra M., first-year student, Metropolitan State University, Minnesota
“Don’t get a credit card until you know that you can manage one and pay for it. It’s difficult to build up your credit score and it takes time, but you can very easily ruin your credit by not making payments, having too much debt, opening too many credit cards at once, you name it.”
—Amanda L., first-year graduate student, Wake Technical Community College, North Carolina
“You could take out a small loan of a few hundred dollars just to build credit, and pay that off in a few short months to minimize paying interest. Having various forms of credit and experience paying those off positively impacts your credit score over time.”
—Jonathan C., fifth-year student, Park University, Missouri
“Things like paying bills on time when the utility bills are in your name, or opening a credit card and paying back the amount in full each month, can help build credit. Know yourself and your own risks and what works for you—don’t use a credit card for all expenses if you’re someone who doesn’t know when to set the limit.”
—Marisa L., third-year graduate student, Wayne State University School of Medicine, Michigan
Kelly DiGonzini, CFP, MST, senior financial planner at Beacon Pointe Advisors, Newport Beach, California.
Jodi Letkiewicz, PhD, assistant professor, School of Administrative Studies, York University, Ontario, Canada.
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