This chapter is from the book
This chapter is from the book
This chapter is from the book
Step 5: Apply for Credit Sparingly
Responsible credit users don't apply for credit they don't need. They also try to pace their credit requests, so that they're not opening a bunch of accounts in a short period of time.
Although your first few credit accounts serve to build and improve your credit history, there comes a point when each subsequent credit application can reduce your score. Where that point is, no one knows for sure; all Fair Isaac will say is that it depends on the other information in your file.
That shouldn't keep you from applying for a car loan if you need a new vehicle, or getting or refinancing a mortgage. But if you already have three or four major bankcards, you should think twice before applying for another one.
You also should resist the urge to apply for those "instant" accounts retail stores are always pushing. Sure, you might save 10 percent on your current purchase, but you could wind up paying more in overall interest if the application lowers your score.
How to Get a Credit Score If You Don't Have Credit
You might have heard that you need credit to get credit. It can certainly feel that way if you've ever applied for credit and been turned down for lack of a credit history.
But people establish credit all the time, and you can do so fairly quickly if you follow the following steps.
If you're a parent with a teen, you might want to help your child through this process as a way to teach them responsible credit use. As noted later, your student will be able to get credit easily when he or she is in college; more than 80 percent of college students have at least one card. The best time for students to learn about credit is while they're at home, under your supervision—and long before they pass by their first credit card sign-up booth on campus.
Check Your Credit Report, If You Have One
You might think you have no record at the credit bureaus, but you could be wrong.
Charles, an 18-year-old in Moline, Illinois, was turned down when he applied for his first credit card. He pulled his report and was shocked to find a collection action. It turns out that his parents had placed a newspaper ad for him while he was still a minor and then forgot to pay the bill.
The collection never should have appeared on his report. Minors can't be held to contracts and therefore are typically not responsible for debts. But the time to detect and fix the problem was before Charles applied for credit.
Another problem you might run into is identity theft. Part of the surge of recent ID fraud cases involves thieves who use children's Social Security numbers to get credit, said Robert Ellis Smith, editor of Privacy Journal. This kind of theft can go on for years before being detected.
If that's happened to you, you need to clean up your credit report before trying to apply for new accounts. See Chapter 7 for help.
Set Up Checking and Savings Accounts
These usually don't show up on your credit report, but lenders see them as important signs of financial responsibility and stability. They are also one of the few steps you can take as a minor to start building a financial history, because you won't be able to apply for credit in your own name until you're 18.
Getting a debit card can give you some practice in using plastic. Debit cards are ATM cards with a Visa or MasterCard logo. You can use them with a personal identification number or PIN, or you can use them like a credit card just by signing a charge slip. The amounts you charge are deducted directly from your checking account.
Nan Mead, communications director for the National Endowment for Financial Education, got her son a debit card in the sixth grade. She put a month's worth of money into the account at a time and made him responsible for managing his allowance, lunch money, and incidental expenses, such as haircuts and school supplies.
"As I knew he would, he went through the first month's money during his first week of school. He bought CDs, pizza for all of his friends," Mead said. "I declined to bail him out, so he ended up taking a sack lunch to school for the rest of the month—a very uncool thing to do at that age, of course—and he had no discretionary money left to spend, either. His money management skills improved each month, though, until, by Christmas, he was doing quite well, even saving for some short-term goals."
As a college freshman, Mead's son received a credit card with a $500 limit. So far, so good, she says.
"In retrospect, the debit card was probably one of the best things I've done, in terms of providing a financial lesson to my son," Mead said. "The mistakes he made initially were small, in the overall scheme of things, and he learned from them. When he graduates to one or more unrestricted credit cards, I believe he will do just fine."
Use Someone Else's Good Name
You might be able to jumpstart your credit history by being added to someone else's credit card as an authorized or joint user. Typically, the history for that account will be imported onto your credit report. That can be a wonderful boost if the person who's adding you is responsible with credit.
If not, though, the results can be disastrous.
Angie P., a Kansas college student, learned that the hard way. Her mother added her as a joint user on a credit card and then failed to pay the bill for more than two months when money grew tight over the holidays. Angie only discovered the delinquency when she checked her credit report.
"I'm just worried an employer will look at my [credit score, now 637] and think I'm irresponsible because of this mess!" Angie said. "What's worse—I'm an accounting and finance major, and this makes it look like I don't know how to handle my money."
If you're added as an authorized user, you're not responsible for paying the bill. But the original user's mistakes could still show up in your credit file. So if your goal is to establish good credit quickly, pick someone who has been responsible with credit and is likely to continue that behavior in the future.
Another strategy to start a credit history is to get someone with good credit to cosign a loan with you. The cosigner is taking a considerable risk, because if you fail to pay, the delinquencies show up on the other person's credit report. But sometimes soft-hearted relatives or friends are willing to take this chance.
Apply for Credit While You're a College Student
It will never be easier for you to get an unsecured credit card than while you're in school. Lenders are much more lenient about extending credit during the college years, because they know your parents are likely to pay your bills if you can't—and that parental support typically ends with graduation.
One reader told me that she lectured her daughter against the evils of credit cards and advised her to steer clear while she was in college. After the younger woman got out of school, though, the very lenders who had been falling all over themselves to offer her cards were now turning down her applications.
So get a card while you're in school, but choose it carefully. Look for the lowest available annual fee and interest rate. And don't go overboard—one or two major bankcards (Visa, MasterCard, American Express, or Discover) should be enough for now.
Apply for an Alternate Card
If you can't get a regular credit card, consider applying for a gas or department store charge card, which are typically fairly easy to get.
You also might consider a secured credit card. These cards require that you make a deposit with a bank (usually $200 to $1,000), and your credit limit is typically limited to that deposit amount. The best cards don't charge application fees, have low annual fees, and convert to a regular, unsecured card after a year or so. Web sites, such as Bankrate.com, offer lists of secured cards, including their rates and terms.
Make sure in advance that the lender reports to the credit bureaus. You can't build a credit history if the lender isn't reporting your payments.
Get an Installment Loan
After you've used plastic responsibly for several months, you might try for a small auto or personal loan. Because the credit scoring formula wants to see that you can responsibly handle different types of credit, adding an installment loan to your mix of credit cards can boost your score.
Amanda got her first credit card at 18, two weeks after she moved out of her parents' house. The card had a $200 limit and an atrocious 19.8 percent interest rate, but Amanda used it strictly to build her credit history by buying groceries and paying the bill off in full each month.
After six months, she got a credit card with a more reasonable interest rate and a higher limit. Three months after that, she got a used car loan for $6,000.
"Not bad for an 18-year-old," she said. "A year later, I got a gold credit card with a 12.9 percent [interest rate]."
Today, Amanda checks her credit reports and scores every three months. She enjoys watching her credit score rise, and it motivates her to continue her good financial habits. She just wished more of her peers knew what she knows.
"If parents would address the credit issues with their children," Amanda said, "and explain the importance of establishing a good credit history and of using credit wisely and responsibly, then maybe there wouldn't be so many problems."