Your credit affects more than just your ability to get a loan these days.
Something as basic as signing up for wireless phone service or even getting a job can be affected by bad credit. Good credit will also save you money on insurance. And if you do get a loan, bad credit could force you to pay a significantly higher interest rate.
With this in mind, I've drawn up the following list of ways to build credit fast and increase your credit score:
- Check your credit report and dispute any incorrect data with the credit bureau.
- Pay every bill on time...always.
- Stay well below credit limits.
- Become an authorized user on someone else's credit card.
- Apply for a (secured) credit card.
- Apply for a credit-builder loan.
But first, let's talk about credit scores
Your credit score reduces your entire financial history into one simple number that makes it easy for companies to determine how risky it is to offer you a loan (or a postpaid cell-phone plan). It's not the fairest system, but it works well enough. And if you know the biggest factors affecting your score, you can do a lot to repair your credit yourself.
Note, there are two different credit scores and three major credit bureaus. The FICO score is the industry standard, and the three credit bureaus created VantageScore as an alternative. I'll be talking primarily about the FICO score, but both generally use the same factors to determine your overall score.
Here are the factors that go into your FICO score.
- 35%: payments history. Paying your bills on time every time has the biggest impact on improving your credit score.
- 30%: credit utilization. This is the ratio of the amount you owe over your total credit limit. The lower, the better.
- 15%: length of credit history. This factors in both your oldest account and the average age of all of your accounts.
- 10%: new credit inquiries. If you've applied for a lot of loans in the last 12 months, it could negatively affect your credit score.
- 10%: credit mix. Lenders like to see that you can handle various types of credit (e.g., a credit card and an auto loan).
Now that some of the mystery behind your credit score has been revealed, here are some strategies to improve the numbers behind the number.
Check your credit reports and dispute any incorrect data
You can check your credit report for free from each bureau once a year at AnnualCreditReport.com. Check over everything carefully. If you see some debt on the report that you're sure isn't yours, call the bureau and dispute it. Likewise, make sure all your credit limits and loan amounts are correct.
A study from the FTC found 5% of consumers have errors on their credit reports that resulted in higher prices for insurance or financial products. About 25% have an error that might have at least a small negative impact on their credit score. It's worth disputing any inaccuracies, regardless of how small.
Pay everything on time
With your payment history accounting for 35% of your FICO score, it's imperative to pay every bill you receive on time. Auto-pay is your friend here. You should be able to pay just about every bill this way.
Paying a bill a day late probably won't even get reported to the credit bureaus, but you shouldn't risk it. This is the simplest step you can take, and it can have one of the biggest impacts on repairing your credit.
Stay well below your credit limit
If you already have a credit card, make sure your balance stays well below the limit you were extended. If you have a credit limit of $1,000 and spend $1,000 per month, the credit card company will report 100% utilization to the credit bureaus. That doesn't look good.
People with the best credit scores generally use less than 10% of their available credit. However, Anthony Sprauve, spokesman for myFico.com, says, "I think 20% for a lot of people is more realistic." He notes there's not a significant difference in FICO scores between 10% utilization and 20%.
There are a couple strategies to stay below 20%. First, you can pay off your credit card throughout the month, so that your balance never goes above 20%. Second, you could call your credit card's customer service to determine when the company reports your balance to the credit bureaus and then pay off as much as you can before that date every month.
In addition, you can improve your credit utilization by asking for a credit limit increase. The worst the company can say is no.
Become an authorized user on someone else's credit card
Another easy way to improve your credit score quickly is to become an authorized user on someone else's credit card. If you know someone who has good credit and trusts you to be on your best financial behavior from now on (if you're reading this article, you're on the right path), that person may be willing to take you on as an authorized user. While you'll have access to the account, the credit card owner is still responsible for payment. Don't be surprised if you never actually get your hands on that piece of plastic.
Getting on multiple accounts with the highest credit limits will help improve your credit score the most, but even just one account can help by increasing your total credit available and lowering your credit utilization. In addition, authorized-user cards generally don't require a credit inquiry, so your credit score won't get hurt at all.
Apply for a (secured) credit card
The best credit card for rebuilding credit is often a secured credit card. Secured cards require you to make a security deposit to open an account, and that amount becomes your credit limit -- and collateral against non-payment. It's an easy way for you to build up a good payment history without a bank taking any financial risk on you.
You can use the card just like any other credit card, and you'll also incur interest on late payments just as with any other credit card. (But you won't have late payments, right?) Secured cards aren't permanent; they're just a stepping stone to reach unsecured credit cards.
Apply for a credit-builder loan
If you've read this far and you still don't see much that you can take action on, this is the step for you. A credit-builder loan is a small loan that you'll make payments on every month. Instead of having the bank hand you the money, though, it'll be kept in a savings account or certificate of deposit. The loan money itself acts as collateral in this case.
You'll make monthly payments at a relatively high interest rate, especially considering you're not actually holding the money. At the end of the loan term, you'll be able to access the money, which usually earns a relatively low interest rate in the savings account. Overall, you'll pay a few bucks to get started building your credit. At the end, you'll have a lump sum you can put down as a security deposit for a secured credit card.
Ask your local bank or credit union if it offers some sort of credit-builder loan. Your institution may call it something else.
If you follow all these steps, you should start to see some improvements in your credit score in just a few months. You'll be well on your way to better insurance rates, lower interest, and finally getting that cell-phone plan you wanted.
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