How to Build Credit From Scratch

The economic upheaval caused by the pandemic has made many people cautious about taking on debt. Believe it or not, carrying some debt can be useful, especially if you are looking to build credit. Your credit rating isn’t based on how well you manage your savings but on how well you manage your debt. If you want to build credit from scratch, it pays to understand how to use debt as part of your financial plan.

Like it or not, everyone needs to build credit. Having good credit affects so many aspects of our lives. Building good credit makes it easier to borrow money when you need it, whether it’s for a student loan, auto loan, home loan, or personal loan. Having good credit also makes it easier to qualify for credit cards, which have become a necessity if you plan to travel, rent a car, or even make online purchases—plus all the great rewards offers that are out there! Your credit history also is used to qualify to rent an apartment or for utilities or cable services. Some employers even use credit scores for job applications.

Your credit rating doesn’t just happen. It’s the result of decisions you make about how you manage your money and where and when you choose to borrow money. You have control over your credit, but to build credit and manage your credit rating, you must know how to build credit.

Understanding Your Credit Score

Your credit score is the metric that lenders and others use to gauge your creditworthiness. Your credit score is based on your credit history and is tracked by the three credit reporting agencies: Experian, Equifax, and TransUnion. Your credit score can range from 300-850, and the higher your credit score, the better your credit. Most consumers have a credit score that falls between 600 and 750, which is considered fair (580-669), good (670-739), or very good (740-799). Once you understand what goes into establishing your credit score, you can take control and build good credit.

Five factors affect your credit score:

1. Your payment history (35%) – Whether you pay your bills on time or if you have a history of missed payments is reflected in your credit score.
2. The amount owed (30%) – This is usually expressed as your debt-to-income ratio. How much you owe based on your earnings is a major consideration.
3. Length of credit (15%) – How long you have maintained credit affects your credit score.
4. Credit mix (10%) – The nature of your debt is another factor (e.g., how much of your debt is for credit cards versus student loans or home loans).
5. New credit (10%) – If you have had a lot of recent credit activity, such as new loan or credit card applications, it can hurt your credit score.

You have control over all these elements. For example, if you pay your bills on time and don’t accumulate more than 30% of your income in debt, it can have a positive effect on your credit score.

It pays to keep track of your credit score as well. Many banks and credit unions, including iQ Credit Union, offer credit monitoring services so you can check your credit score. There are online services, such as Credit Karma, Credit Sesame, and myFICO, that let you check your credit score for free, and you can check with the credit reporting agencies as well to get your credit score.

Credit tracking is imperfect, and sometimes mistakes creep into your credit history that can have an impact on your credit. It pays to ask the credit reporting agencies for a copy of your credit report every 12 months to make sure there aren’t any errors or omissions.

Start Building Credit Early

The earlier you can start to build credit, the better. Many start to establish their credit history with a credit card or student loan. Once you start earning a steady income, you can start building credit with a gasoline card, store credit card, or a Visa or Mastercard.

It’s never too early to start establishing credit. Many parents cosign for a joint credit card for students going away to school to help pay for expenses. Just having your name on a joint credit card helps you build credit. You also can get a cosigner for an auto loan or student loan to help establish credit.

If you don’t qualify for a credit card, you can always get a secured credit card to help establish a credit history. This is essentially a cash card where the credit limit is the amount of money you have placed on deposit.

Your bank or credit union can help you build credit. For example, iQ Credit Union offers members the Share Secured Visa Platinum card, which features a very low interest rate, no annual fee, and is great for building credit. Having a credit card can make it easier to manage recurring or household expenses and can be invaluable in an emergency.

If you haven’t already started, take charge of your credit. Anyone can build good credit if they understand how credit works. To get started, be sure to read our guide, Understanding Credit: The Good, The Bad, and the Ugly.