Thursday, February 6, 2014

Building Credit History

This post originally appeared on this blog on 8/30/2012, but it's such an important topic we felt we should revisit this one.

Even if you are not in the market to get a loan, having and building a healthy credit score in the United States can be beneficial and even fundamental for managing your bills. Your credit score is a complex algorithm designed by lending agencies to allow lenders to quickly and easily judge how likely you are to pay your bills and manage the amount of debt you request to borrow. Your credit score can earn you discounts and perks, even on basic utilities like electricity (or washer and dryer rentals!), or it could prevent you from being able to obtain loans in the future, all depending on how you spend your money over your lifetime. Though it takes years to build credit, don't feel intimidated! There are a few simple things you can keep in mind to build a good score.

Credit is based mainly on your borrowing history.
Even if you have a bank account and pay your apartment rent on time and have never had a credit card or been in debt, you may not have an established credit history. Having no credit can be just as detrimental as bad credit because lenders don't have any idea about how likely you are to pay your debts. The credit bureaus recommend that you have somewhere between 4 and 6 accounts that report to credit agencies to have a healthy score. A credit line could be a student loan, a car loan, or even as simple as a card that you buy groceries with and pay off at the end of each month.

You don't have to start off with no credit when you turn 18.
Parents can add their children's names to credit accounts when they are of age, usually around 16, to begin building credit. Your teenager does not have to use the card or even make payments, just having her name on the card will piggyback off of your credit score. However, keep in mind that if your credit is bad and you do this, your child will inherit bad credit too.

The amount of time you keep a credit line matters.
Having long-standing accounts that are paid on time for several years helps to build your credit. This is another great reason to start early when building your credit. Even if you pay off your debts, try to keep at least one card around that you have a long history with.

Keep a low balance on your cards and low overall debt.
Try to keep the amount of debt used on your credit line below 30%. A heavy determinant of your score is how much debt you have compared to how much you make each year. But just having a maxed out credit card can be damaging to your credit. Try spreading out your debt over a couple of cards and try to be as pragmatic and conservative as possible when judging how much you need to borrow. Just because you can borrow a lot doesn't mean that you should.

Hard inquiries to your credit do effect your score, but not by much.
Any time someone other than you checks your credit -- that is, any time you show interest in taking on more debt-- lenders see this as a potential risk factor in lending to you, which can potentially damage your score. However, the actual debt you have compared to your income and whether you pay your bills on time is far more weighty than an outside agency checking your credit. To limit the number of checks, check your own score regularly so that you have your rating in mind. Then whenever you are interested in dealing with a company who checks credit, be sure to ask what general score range they look for to get the best rate. This will help you judge how likely you are to be approved at the budget line you are looking for without adding unnecessary dings to your score.

Checking your credit score is free!
Though all of these factors are very important, the best way to keep on track is to check your score and your detailed report. Credit scores vary so much from person to person because everyone's financial needs are different. You can check your score as many times as you want, as well as obtain at least one annual detailed report from each of the three main credit bureaus (Equifax, Experian and TransUnion) at no cost. Credit monitoring sites such as are a great free resource for gaining insight into your credit history. If at any time you see major changes in your score and you're unsure why, get a detailed report from each of the bureaus to make sure your affairs are in order. Big unexplained changes can point to errors in reporting or even identity theft.

Remember, knowledge is power! Keeping your credit rating in mind when you're budgeting can give you an edge in the future. Though credit scoring can seem scary and mysterious, it's just another factor in balancing your finances that you can use to your advantage. So keep an eye on it every month, just like your bills and your bank account. And until next time, keep it clean!