Budgets and Money

How To Build Good Credit: A Beginner’s Guide to Personal Financial Planning

Building a credit score so you can move into financial adulthood when you don’t have any credit history can seem puzzling. So it's important to learn you need both to maintain good credit health.

How to Build Credit and Improve Your Credit Score

The two biggest factors in determining your credit health are your credit history and your credit score. “But wait,” you say, “I have no credit history. I've never had a credit card. How can I possibly have a credit score?” It does seem like a conundrum, doesn't it?

The fact is, establishing good credit enables you to progress through other levels of financial adulthood, such as securing a loan for a car or for buying your first home. And yet having good credit is wholly dependent on your ability to get approved for a new credit card or two, which, if mismanaged, could cause you serious financial duress. So basically, even attempting to build good credit means that you may run the risk of falling into a bad credit trap. How can you avoid this fate? By having a thorough understanding of how the credit industry actually works is a good place to start.

Credit scores

The good news: credit scores don't start at 0. They start at 300, and run as high as 850. Now, while 300 sounds better than zero, it's actually a very poor credit score. But if you're a credit card newbie, generally you'll be assigned a credit score somewhere in the middle. Even if you've never had a credit card, it would be a good idea to check your credit score just in case any old debts or bills you've forgotten about/defaulted on are already pulling your credit score down, or if your identity has been stolen and your credit history now has fraudulent information.

Ideally, you should begin to address any issues before you start applying for credit cards, because any negative info on your credit report will adversely affect what kind of credit cards you'll be able secure. You can check your credit score for free on the FTC's Consumer Information website, and you are also entitled to free credit reports from the three main credit reporting agencies (Equifax, Experian, and TransUnion) once per year.

Building credit history

If you've already begun to receive offers for unsecured credit cards with low interest rates, low or no annual fees, and other beginner-friendly perks like late payment forgiveness, etc., you're well on your way to building good credit history, which is inextricably linked to maintaining a good credit score. Remember, the two biggest factors in determining your credit score are your payment history and how much you owe. If you always pay your bills on time and pay at least the minimum (though paying more than the minimum is better), you should be in good shape!

If you are unable to get approved for an unsecured credit card, you might try applying for a secured credit card. A secured credit card initially functions as a prepaid credit card. You provide cash collateral (usually around $300-$500), which becomes your line of credit. There will usually be an annual fee involved with a secured credit card. (Beware of secured credit card offers that come with overly aggressive fee policies.) If your card is properly managed over time, your creditor can increase your line of credit without requesting additional deposits. After a year or so of making the required payments on time, you should start receiving a fair share of unsecured credit card offers.

Maintaining good credit

As a new credit card user, it's important to keep your balances relatively low. Many credit experts suggest you use no more than 30 percent of your available line of credit on any single credit card. This can be challenging for new credit card users, but it's important to keep your debt to income ratio relatively low, because it's one of the best indicators of responsible personal financial planning, and exactly what lenders look for when dolling out money. In an effort to keep your balances as low as possible, only use your credit card for small expenses that you know you can afford to pay off within the month.

The three additional factors that affect your credit score to a lesser extent are the length of your credit history, new credit, and the types of credit you're using. Once you've hopped on the credit card train, your credit score can derail quickly if you open or close too many new cards within a short period of time. So as new and better credit card offers start to filter into your mailbox, try to resist the temptation to keep opening additional lines of credit. It's also important to consider these six additional factors affecting your credit score and understanding what goes into your credit score.

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All Learning Center articles are general summaries that can be used when considering your financial future at various life stages. The information presented is for educational purposes and is meant to supplement other information specific to your situation. It is not intended as investment advice and does not necessarily represent the opinion of Protective Life or its subsidiaries.

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