If you want to borrow money, then the first step is to establish good credit. Let’s face it — if you can’t borrow money, you probably can not buy the items you want. It’s a good idea to start working on your credit when you’re young before you try to purchase your first home. By that time, you’ll want to have already established some credit.
Some people don’t necessarily have bad credit, but they don’t have good credit either. In other words, they don’t have any credit at all. Building up credit takes time and careful planning, but it’s not as difficult as you may think. With the right forethought, you can begin establishing credit right away.
First Things First
The first thing you need to do is get a credit card and begin working towards establishing a record. There are plenty of credit card companies willing to provide credit to someone with no credit or even bad credit. The interest rate may be high and the credit limit low, but you have to start somewhere. Your primary goal with this first card is to begin building credit. You can do that by purchasing things that you know you can pay off at the end of the month. That way you won’t owe any interest, and you’ll still be building credit. To understand how to establish good credit, let’s look at the factors that affect credit, either positively or negatively.
Factors That Affect a Credit Score
One of the most important things that will have an impact on your credit score is your payment history. Since you may be just starting with establishing credit, it will take some time to develop a substantial history. However, make every month count by paying on time. Make sure you pay at least the minimum, but it’s best to pay the entire amount off so that you don’t accrue any interest.
Most credit card companies have auto pay programs, which helps you always have your payment in on time. If you do enroll in auto pay, you'll need to be extra diligent about watching your bank account to make sure the money is there when it’s scheduled to come out.
Credit Utilization Ratio
Your credit utilization ratio is the ratio between the total money you have access to versus the total debt you have. For example, if your credit card lender has given you a $1,000 and you’ve used $500 of that amount, the balance you have access to is $500. To figure out what the utilization ratio is you divide the credit card balance by the credit card limit, then multiply by 100, and it’s reflected as a percentage. In the example above, the credit utilization ratio would be 50 %.
Lenders generally look for a credit utilization ratio that is 30 % or lower. There are a couple of ways you can achieve this goal. One way is to make sure you only borrow 30 % or less than what you have on your card. However, you can increase your credit limit by merely applying for additional credit cards from other lenders or asking your current lender to raise your ceiling. As you pay your monthly debts each month on time, your lender will be willing to increase your limit. You shouldn't have any problem getting another credit card either.
Length of Credit History
This factor is only somewhat important, but it does play a part. Credit scoring is based in part by how long you have had your credit cards or loans. Of course, there is nothing you can do about that except get started with building your credit today, and if you do have a credit card from the past, don’t close the account. Even if you don’t use it, the fact that you’ve had it for a length of time will count in your favor — the longer, the better. Don’t close down any of your current credit cards either. No action on them is acceptable.
Aside from the age of your oldest account, your score factors in the average age of all your accounts. So, when you open new accounts, it will make your total average age of your accounts younger. This shouldn't lower your score, because opening new accounts will raise your credit limit and therefore decrease your credit utilization ratio. Consequently, it is usually in your favor to open a new account.
While all these things are important when calculating your credit score, the most important thing you can do to start establishing good credit is to take that first step. Once you open your first credit card and begin making timely payments each month, you’ll see your score start to improve with time. The credit card lender may increase your balance automatically after some time. For more help purchasing your new home, get in touch today!