The Easy Way to Build Credit
Why do I need to build up credit anyways?
Having a good, solid credit history has many benefits. The most common one is when you get a loan for a car. A person with bad credit may get charged 20 or 30 percent interest, if they get approved at all, while someone with great credit could get one for 3 to 5 percent. The other major loan people need good credit for is a mortgage when you buy a home. It could be the difference between staying a renter and becoming a home owner.
Loans aren't the only way your credit can affect you. It is quite common for landlords to run a credit check on perspective renters, so it could disqualify you from renting an apartment. It could also prevent you from getting a job if your potential employer runs one and finds something they don't like.
Where do I begin?
The first step in building credit is to get a credit card. This is probably the hardest step to building credit as someone who doesn't have any credit history, but you should be OK as long as you have a job.
I would recommend trying to get pre-qualified for some major credit cards first, as that will not affect your credit like if you just started applying for cards. You can do that for Capital One and Citi Bank.
Another option is to go for a secured credit card. You will have a much higher chance of getting approved, but how they work is you deposit money into their savings account, and then your credit limit equals the amount you deposited. You will get the money back when you close the card or upgrade, but it still is tied up for a while. I like Capital One Secured and Discover Secured.
How to set the system up.
Now that you have your credit card, you want to look at all your monthly bills. You want to find the one with the smallest amount, especially one with a consistent amount. Some really good ones are Netflix/Hulu, Amazon Prime (if you pay monthly), or a low cost gym membership.
You want to set up this bill to be paid automatically every month with your new credit card. You will do that on the website you normally pay the bill on.
Next log into your new credit card, and set up an auto payment. You will have a couple of different options to choose from, but the important ones are you want to pay the full statement balance (you set it to pay right away after the statement posts, or to pay on the due date). Have the payment come from your checking account.
The Easy Way
Once you have everything set up, the only thing you have to do is maintain enough money in your checking account to cover the bill. If you used your Netflix bill, as long as you keep $15 in your checking, you won't have to worry about it.
Now just sit back and relax. According to Experian, you should have a credit score in 3 to 6 months. Once you have a score, I would keep the system in place to continue building up a bigger credit history.
Why does this system work?
Now that you know how to build credit the easy way, you may be wondering how this works.
Your credit score is based on a couple of different categories which are weighted in importance.
Utilization. This is one of the most important categories. They are looking for you to have a balance of less than 10% of your total credit limit. If you can you want to keep this around 1-5%. This is one of the reasons that we wanted to pick a small monthly bill, that way your utilization stays low. You can ask for a credit limit increase after you've built up some history and that will help keep this low.
Payment history. This is another important category. You really want to ensure that you keep this at 100%, as just going down to 99% will hurt you pretty bad.
Derogatory marks. This is the last of the big three most important categories. This is where any collections accounts, bankruptcies, or other issues will show up. These will stay on your report for 7-10 years and will be very bad for your credit.
Age. This only has a medium impact on your credit. It is the average length of time your accounts have been open. This is the reason why people say to not close a credit card account (unless it has an annual fee) because the longer the accounts are open, the worst this gets. Opening up a bunch of new accounts can also drop the average and impact you as well.
Number of accounts. This only has a small impact on your credit. It is the total number of accounts you have opened, counting ones currently open and ones you have closed. I wouldn't worry too much about this and don't think it wise to open a new account just to improve this category.
Inquiries. This is also only a small impact on your credit. This is the number of times someone has done a hard inquiry (you will hear people talking about a soft inquiry, that wont show up here). This is usually done when you apply for a credit account. These will stay on your account for two years. I wouldn't worry too much about these, but I would try to only apply for accounts that you are pretty sure you will be approved for.