A college student may not need credit history immediately, but if you’re planning for life after college (which you should be), you should start building credit as soon as possible. The difficulty here is that most college aged students have no credit history. So how do you build credit? If you want to take out a loan or open a credit card but lack any type of credit history, you’re not going to get very far. However, you’re hardly alone. According to the Consumer Financial Protection Bureau, more than 50 million American adults lacked a credit score entirely in 2015. Another 26 million were “credit invisible,” meaning that they had no credit history. Yet another 19 million had a credit history that was so outdated or insufficient that no score could be generated from the data.
Lacking a credit history can hold you back. Read on to find why having credit matters and for ways on building it without an existing credit history.
Why is it Important to Build Credit?
Some of the top benefits of establishing and maintaining credit include:
- Better approval odds – When you have a good credit score, you’re more likely to be approved for credit cards and loans when you need them.
- Lower interest rates – A good credit history makes you eligible for far better deals when shopping around for credit. In most cases, the interest rate that you’re charged is directly tied to your credit score. With a good score, then, you’re more apt to enjoy a more competitive rate and lower finance charges. This also allows you to pay off debt faster.
- Leverage – A strong credit history gives you negotiating power that you can use to obtain better offers, including credit cards and loans with lower interest rates and better terms.
- Emergency resources – When you are backed up by a strong credit history and score, you can breathe a bit easier when emergencies strike. A good credit history allows you to apply for and obtain credit when life throws curveballs your way, so it enhances your overall feeling of security.
- Higher credit limits – A solid credit score will qualify you for higher credit limits on loans and credit cards. This not only improves your borrowing capacity, but it makes it easier to maintain a good debt-to-income ratio and credit utilization rate, which further helps to improve your credit.
- Easier approvals when renting – If you rent the places where you live, you’ll find that having a good credit score comes very much in handy. Landlords and property management companies run credit checks to assess potential tenants’ suitability and the risk that they are assuming in renting to them. If your score is bad, or if you have entries in your report for past evictions or outstanding rental balances, you will struggle to be approved for rentals.
- No security deposits on utilities – Utility companies run credit reports on consumers to assess how likely they are to pay their monthly electric and heating bills on time. When you have no credit or a bad credit score, you will likely be required to pay a security deposit at the time that you move into your new place. This typically runs anywhere from $100 to $200, but having good credit eliminates this issue.
- Obtain a cell phone on contract – With good credit, wireless providers are more likely to approve you for a new cell phone on contract. Typically, the contract includes a huge discount on the cost of the device itself, so it can save you considerable amounts of money over time.
- Enjoy better car insurance rates – Your driving record isn’t the only thing that car insurance providers consider when calculating premiums. In most cases, your credit score is taken into account too because underwriters find that people with bad or no credit are likelier to file claims. With a solid credit score, then, the odds of obtaining more affordable auto insurance are much higher.
- Enjoy the confidence that good credit brings – Finally, establishing and maintaining strong credit just feels good. You can live your life with the confidence of knowing that you can fall back on your solid credit history if need be. You can also take pride in being among the smaller percentage of those who are able to maintain excellent credit scores.
How Does Credit Work?
To do well with credit, it helps to understand how it works. Here are some of the basics:
Information regarding your transactions with loans, credit cards and the like is reported to the three credit reporting bureaus, Equifax, Experian and Transunion, every 30 days or so. These bureaus use this information to calculate a credit score that may then be used by banks and other financial institutions to establish creditworthiness.
Credit Score Makeup
What goes into a credit score, anyway? Here’s a breakdown of the top factors affecting your credit score:
- Payment History – 35 percent
- Debt Usage – 30 percent
- Age of Credit Accounts – 15 percent
- Types or Mix of Credit Accounts – 10 percent
- Number of Hard Inquiries on Your Credit – 10 percent
Credit Scores Reflect Estimated Risk
A credit score is designed to be a quick way for banks and others to establish the risk of lending money to an individual. The higher your three-digit score is, the less risk that you represent to lenders. Here’s a rundown of the main credit score categories:
- 750+ — Excellent credit
- 700 to 749 – Good credit
- 650 to 699 – Fair credit
- 600 to 649 – Poor credit
- Below 600 – Bad credit
It’s also important to know that not all information is reported to all three bureaus. Therefore, your credit reports may vary from one bureau to the next – and your scores may too. Information on your credit report typically remains for seven to 10 years, so it is crucial to take care when using credit.
How to Build Credit with a Credit Card
Using a credit card responsibly is among the best ways to establish good credit. However, without a credit history to examine, issuers are unlikely to approve you for one.
Luckily, there’s a way around this: applying for a secured credit card. This type of card is typically tied to a savings account; the limit is either the balance of the account or a percentage thereof. Other times, you make deposits to the credit card issuer and then borrow against that money. Your transactions are then reported to the bureaus—usually. Always ask first because that isn’t always the case. By making payments on a secured card on time, keeping within credit limits and otherwise using credit responsibly, you should be able to qualify for an unsecured card before you know it.
How to Build Credit without a Credit Card
Although using credit cards is among the easiest ways to establish credit, they can be risky and aren’t for everyone. Other ways to build credit include:
- Auto loans – Installment loans like car loans are among the easiest to be approved for because the vehicle itself serves as collateral. If you don’t pay the loan back as promised, the issuer can repossess the car. However, rates and terms vary widely, so it pays to shop around. Keep in mind that you may require a cosigner at first.
- Student loans – Paying your student loans on time every month will help you to establish a strong credit history, so don’t miss any payments or pay any of them late.
- Secured loans – Some banks and other financial institutions offer secured loans. These credit builder loans, as they are called, work similarly to secured credit cards in that you deposit a certain amount into an interest-bearing account and then borrow against it. Your transactions are then reported to the credit bureaus. In some cases, a passbook or CD may be used as collateral for this type of loan as well.
- Ask for credit – In most cases, things like rent payments and utility payments are not tracked by the credit bureaus. However, you can reach out to landlords and others and ask for credit where credit is due. Experian was the first bureau to include positive rental payment history data, which they collect from landlords, in credit profiles. The company also offers an Extended View credit report that includes additional information from public records and other sources, so be sure to ask would-be creditors to check it out on your behalf.
- Non-profit lending circles – Organizations like Mission Asset Fund work to provide low-income borrowers with ways to obtain financing while establishing and building credit. They help consumers to find affordable loans, and they report positive payments to the three bureaus.
How to Build Credit with Help from Your Parents
If you are a young adult looking to establish credit, your parents may be able to help. One option may be to add you to a credit card account as an authorized user. However, if you run up charges and don’t pay them, your parents will be on the hook.
Alternatively, your parents may be able to cosign on loans or credit cards for you. In this case, you both will be held responsible for the status of the account.
How to Build Credit Responsibly
Once you have a means of establishing a credit history, it’s crucial to be responsible to ensure that you end up with a good score. Here are some quick pointers:
- Pay off credit card balances in full every month to avoid paying interest charges
- Never miss making a payment and make all payments on time
- Don’t overextend yourself – aim to use no more than 30 percent of your available credit at one time
- Only apply for credit when absolutely necessary – the more inquiries that are on your profile, the lower your score will likely be.