How to Build Credit
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In the simplest terms, credit is the practice of borrowing money or goods and agreeing to pay it back within a specified time. Service providers, merchants, and lenders grant customers credit with the trust that they will repay what they borrowed.
Credit cards, loans, and lines of credit allow people to borrow money and pay it back at a later date along with accrued interest. The better you are at paying the money back on time, the higher your credit score is.
There are misconceptions galore when it comes to debt and credit. According to a recent CNBC report, the average American has $155,622 in debt, and the number keeps rising.
Poor credit history not only affects your overall financial health, your ability to get approvals for loans, new accounts, and favorable interest rates.
This page takes an in-depth look at the steps to developing good credit, available resources on responsible credit building, and the tips and tricks to improve your financial literacy.
Benefits and Pitfalls of Credit History
Credit can be both a boon and a bane. A good credit score indicates that you are making timely payments and do not have past-due debt balances. Bad credit implies that you have unpaid balances or your payments have not been on time.
Not having a credit score can also be a disadvantage, as it can become harder to qualify for loans through traditional methods. Since lenders use your credit score to determine if you are capable of making repayments, being credit invisible makes you a risky customer.
Here are some ways credit can help or hinder you in everyday life:
Ways to Boost Your Credit Score
There are three national credit bureaus in the U.S. — Experian, Equifax, and TransUnion — that collect and record people's credit ratings and share them with lenders and financial institutions when required.
The most common algorithm used to determine a person's credit score is the FICO Score. Credit bureaus track the following approaches that can improve your credit score over time.
There are ways to get a credit card even on low credit, such as a secured credit card. This type of card requires a deposit with the issuer and has a low credit limit. If you make timely payments and the issuer reports to any one of the credit bureaus, it can help you build credit.
Becoming an authorized user on someone else's card is another accessible way to improve your credit score. This not only allows you to use the card in your name, but the timely payments can boost your chances of getting your own credit card someday.
Aside from boosting your credit history, credit cards bring added perks like travel points and cash-back shopping. Just make sure the primary card user has a quality credit score and makes their payments on time.
Having multiple credit cards can help you balance your credit utilization ratio, as long as you do not open all the cards at the same time. Credit utilization ratio is the amount you owe compared to your available credit.
While 10% or lower is the ideal ratio, spreading charges across multiple cards can help you prevent the rate from going past the recommended 30% mark.
Credit builder loans are meant for people with poor or no credit history, and anyone from credit invisibles to credit newbies can use them. The amount borrowed is put on hold and cannot be accessed until the loan has been paid off. This helps build savings as well as credit, and is low-risk for the lender.
It is difficult to get approved for mortgages, auto loans, student loans, or any type of unsecured loan with poor credit. However, having a co-signer with a good credit history may help you get around this hurdle. The lender will consider the other person's credit score instead of yours.
Loans are often easier for building credit because the payments are often the same every month, and you can automate them. Diversifying your credit mix can give lenders a better understanding of your financial health.
Blending revolving credit accounts with installment loans and managing them successfully will diversify your borrowed money, and may have lenders see you in a better light.
Timely payments are often the biggest contributor to your credit score, but not utility bills. Utility bill payments are not reported to the credit bureaus and do not build your credit history. They can, however, end up in collections, which would impact your credit score.
Credit bureaus track debt repayment — such as on loans and credit cards — and it makes up 35% of your credit score. Missing even a single payment deeply affects your credit because of the importance algorithms place on payment history.
Though ideal, you do not have to pay the full amount every month. Paying even the minimum will prevent the lender from reporting you as late. To ensure that you do not forget about bill payments, you could mark it on your calendar or use an app to set a reminder on your phone or computer.
Resources for Building Credit
Free resources available online can teach you more about responsible credit building and improving your overall financial health. The following resources offer valuable information about consumer finance and money management.
What Does It Mean to Build Credit in Accounting?
In accounting terms, credit either means an increase in liability and a decrease in assets, or an increase in revenue and decrease in expenditure.An accounting career requires a solid understanding ofcomplex financial terms that the average person does not use.
Generally accepted accounting principles (GAAP), equity, estate planning, accruals, appreciation and depreciation, bookkeeping, and investments are some of the concepts that an accounting professional must extensively study and grasp.
Reviewed by: R.J. Weiss
R.J. Weiss is a certified financial planner and current CEO of the financial education company The Ways To Wealth.
Weiss has worked with clients across a variety of fields, including insurance planning, investment planning, income tax planning, and retirement planning.
The Ways To Wealth teaches the fundamentals of financial planning to hundreds of thousands of monthly readers.
R.J. Weiss is a paid member of the Red Ventures Education Integrity Network.
Page last reviewed June 27, 2022
Featured Image: Worawee Meepian / iStock / Getty Images Plus
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