Get Good Credit at a Young Age
Having good credit can open the door to many financial possibilities, such as purchasing a home or car at a low interest rate or receiving a larger bank loan. These benefits are great in building personal wealth and becoming financially independent. For this reason, it would be smart to follow certain steps to get good credit at a young age. Doing so will teach you how to be financially responsible and afford you more time to establish a high credit rating.
Contents
Steps
Starting Young
- Understand what makes for a good credit score. A credit score is a measure of how responsible you are with credit. Do you pay your bills quickly and in full, or do you just pay the monthly minimum, and late at that? There are a lot of factors that make up your credit score, and knowing them will help you plan for good credit:
- Payment history — 35%. How often do you pay your bills on time? Late payments hurt your score.
- Debt usage — 30%. How much debt do you have in relation to your overall limit? Low debt and high limits is what you're after.
- Credit age — 15%. How long have you been establishing your credit? The longer the better.
- Account mix — 10%. How many accounts or lines of credit do you have open? The more the better.
- Inquiries — 10%. How often do you apply for new credit? Too many inquiries can hurt your score.
- If you haven't already opened a checking or savings account, open one. Ask your parents to help you set up your own bank account if you're younger than 18. In today's digital world, it's very hard to maintain good credit and pay off credit cards without the help of a bank account.
- Open both a savings account and a checking account. Put money that you want to save for a rainy day or for investment into the savings account. Put money that you'll use to pay off your credit card or other debt into the checking account.
- If you haven't already, apply for a credit card. If you're younger than 18, have a talk with your parents about co-signing. (You can't apply for a credit card yourself if you're under 18.) Understand a few things about your credit card before you use it.
- You need to have a steady source of income to qualify for a credit card. You parents will be able to apply and then add you as an authorized user, but if you're applying on your own, a monthly allowance from your parents doesn't count!
- If your parents act as co-signers on your account, they'll be responsible for monthly payments. You'll be responsible, too, but any bad decisions will affect them. Understand that before you go on a vicious spending spree and max out your credit card.
- Use your credit card for things you can afford, not for the things you can't. If you want to establish good credit, use your credit card only when you have the cash to pay off your debt. Otherwise, your credit ship will slowly start sinking.
- Apply for a loan on a car. This may require your parents becoming co-signers (and you would have to be 18), but if you have proven yourself to be responsible, your parents should be happy to oblige. Depending on where you live, you may have to hold car insurance and then provide various proofs of identification and income.
- Don't just buy a car because you feel you need to establish good credit. If you're going to buy a car and want to finance it with a loan, this is a decent option. Having another line of credit open will help your score if you repay the loan.
- But know, too, that paying a loan on something like a car will end up being more expensive in the long run than paying for the car with cash. You'll be paying interest payments.
- Use your parents' good credit to give you a boost. Ask your parents to help you build good credit early. This can be done by having them transfer some household bills into your name. The more bills you pay on time and in full, the better your credit score will be in the long run.
- You don't even need to pay for the bills yourself. Have your parents transfer the money into your account and let you pay off the bills.
Understanding Credit
- Understand your credit card limit. Your limit is the maximum amount of money that you can charge to your credit card. As a young person, your limit will probably hover anywhere from $300 to $2,000.
- Don't get sucked into spending lots of money just because you have a high limit. Your limit is something you should be afraid of, not mesmerized by. You should never charge your card for the limit unless it's an emergency.
- Know about monthly payments. If you don't use your credit card during a month, you won't have to make payments on it. But if you do use your credit card, you'll have three options of how to pay back the money. You can pay the balance in full, you can pay an amount smaller than the balance, or you can pay the monthly minimum. The monthly minimum is the amount that you're forced to pay or you'll be dinged with a late payment. Only paying the monthly minimum will make your credit score worse.
- Know that you can pay interest on your credit card. Interest is a small fee that the lender charges you for the privilege of borrowing money. High interest rates are bad. If your credit card comes with a 10% interest rate and you charge your card for $500, you could be hit with $50 in interest charges and still have to pay back $500. You got $500, but you had to pay $550. That's not a great deal.
- Usually, if you don't pay your full balance, your interest rate payments will start kicking in on the amount that you haven't paid. So, if you balance is $500 and you pay off $250, check your interest rate. If your yearly interest rate is 12%, you're going to pay 1% each month: $500 - $250 = $250 x .01 = $2.5 for that month.
- Look for a low-APR card. APR stands for annual percentage rate. It's the interest rate associated with the card (what was discussed above). If your APR is 10% and you charge $1,000 on your card, you'll have to pay $1,000 x .10 = $100 in interest on your card. That's $1,100 for the privilege of spending $1,000.
- Know your credit utilization. Credit utilization is a fancy term that's actually pretty easy to understand. Also called debt to limit ratio, it's a relation of how much debt you owe to how much total debt you can carry. For credit cards, you want a low credit utilization.
- If you have $300 of debt on your credit card and your total limit is $600, you get your credit utilization by dividing your debt with your limit. 300 ÷ 600 = .5 = 50%. 50% is a pretty high credit utilization.
- If you have $100 of debt on your credit card and your total limit is $1,000, your credit utilization would be 100 ÷ 1,000 = .10 = 10%. 10% is a great credit utilization percentage.
- A really good credit utilization is about 10%, but the average credit utilization is anywhere from 25% - 35%. If you're in that range, you're doing good.
- Check your credit score once a year for free. Don't be scared of your credit score. You can check it online for free once a year from any one of the three major credit bureaus, TransUnion, Equifax, and Experian. Know that you'll have three credit scores out there, with each one being possibly different.
Building Credit
- Use your credit card only for items that you can afford. If you use your credit card to purchase things you can't afford, you'll have trouble paying off your credit card balance. If you have trouble paying off your credit card balance, your credit score will go down. If you pay off your balance in full every month, you'll have a great credit score.
- Pay off your credit card on time every month. Memorize the due date for your card, and always pay at least part of your bill before that date. Payment due dates are usually a few days after the beginning of the month, but check your credit card statement to be sure. A late payment will hurt your credit score.
- Wait for a little bit before enrolling in two credit cards. One way to increase your credit score is to have two cards and only use one regularly. There are advantages and disadvantages to this strategy.
- Advantage: Your total credit limit goes up. If you have one card with a limit of $600, your total credit limit is $600. But if you have two credit cards, each with a limit of $600, your total credit limit is $1,200. As we learned earlier, a higher limit will lower your credit utilization, giving you a better credit score.
- Disadvantage: If you haven't established good credit yet, your credit score will take a hit if you apply for a second card too soon. Wait a year or two before applying for a second card. When you do apply, only use that credit card for small purchases.
- Use your loyalty as a bargaining chip. If you happened to forget about a payment and have that looming on your credit score, try to use your loyalty to the credit card company in order to have that late payment forgiven. You'll usually need to submit a request in writing, but it can't hurt to try.
- Dispute any charges that aren't accurate. Sometimes, there'll be a mix up with the credit card company and you'll be charged or penalized for something you didn't buy or wasn't your fault. In these instances, you'll need to be very careful about disputing charges you're not to blame for.
- Call up the small credit and collection agencies on your credit report and calmly ask them to prove you and your address were in fact associated with defaulted payments. Smaller companies are going to have a tough time providing such details, making it easier for it to be removed from your report.
- Do the same for companies that have merged or closed down — if the information about you cannot be verified, you can request for it to be removed and make your credit score better almost instantly.
Growing Good Credit Checklist
Tips
- Understand that you won't be able to get a great credit score just starting off. You'll need to use credit and loans responsibly for 7 years before your history starts counting for you.
