This article is about building credit for those who have little to no credit and wish to build their credit in order to obtain a loan. For reasons why this is important, even if you don’t see yourself as much of a borrower, see our previous post Using credit cards to build wealth and get free stuff. For the purposes of this article, however, we will go step by step and assume that you are starting from scratch. Building your credit is like building your resume–it doesn’t happen overnight, and ultimately it will be like a portfolio of your previous decisions that will be used when you need to prove your (credit) worth. Thus, we are going to treat this like building your credit resume.
- Assess your credit situation – If you are ever going to build your credit, it will first be necessary to establish what credit situation you are in. Wasting money is certainly not going to get you anywhere, so I will only mention the free stuff. There are many free credit reporting services out there, if you are willing to take the time to apply. All you have to do is give them your information, and they will send you a report of your credit. Watch out that afterward you don’t incur charges for those that make you opt in to a 30 day free trial. Here is one of the myriad of free credit report sites out there.
- Establish financial stability – Building your credit isn’t just about a score, it is about making you look loan worthy. This doesn’t mean fixing your hair just right and wearing the right clothes–it means giving lenders a financial picture that they can look at and trust. This begins with a bank account. It is a simple step, and quite honestly it will be difficult to exist in our society without one, but you need to get a checking account in order to look loan worthy. Think of this like the education section of your resume; it is not as important as your work history, but something needs to be there.
- Show me the income – The troubling thing about the entire credit system is that you have to get credit in order to build credit. Sounds like getting a job right? Well, you are never going to get a loan of any kind unless you can convince the lender that you can pay it back. This means showing income, which is slightly different that making income. Lenders can typically see your income in three different ways, tax returns, bank statements and payment stubs.
If you are a W2 employee, showing your income is very simple, and for most lenders 6 months pay stubs (or less) will be considered acceptable. If you are self employed, this is a little different. Those who are self employed will typically need to show the previous two years of tax returns or bank statements in order to establish financial viability. Either way, this should always be kept in mind as you are building your credit portfolio. The final way is to show your payment stubs, but this is only necessary if your previous year’s tax return does not show enough income (if you were at a lower paying job, etc). - Establish lines of credit – A line of credit is anything that you make recurring payments on. Credit cards, cell phone payments, car loans, payday loans, pawn shop loans–these are all lines of credit. Anything you can point to that will show on a credit report (paying back mom and dad for college will not count here) will help you as a line of credit. You must keep this in mind in building your credit resume because it only counts if it is in your name. My wife comes from a very wealthy family, but she cannot get a credit card to save her life. We have had to build her lines of credit, because everything is in her parent’s name. Students and young people keep this in mind – if it is not in your name it will not build your credit.
- Get a credit sugardaddy – Ultimately, the key to any financial situation is getting a sugardaddy. A credit sugardaddy is someone who has great credit who is willing to let you piggyback until you can likewise have good credit. Just have them cosign for a credit card or loan, and this will also help you build your credit along the way. Keep in mind though: this will only take you so far; in order to really build your credit (i.e. in order to become a sugardaddy yourself), you need to get a loan of some kind that is solely in your name. Points 6-8 are some ways.
- Apply for a student credit card – Students, you are in a unique situation because at this point in your life credit card companies realize that you likely have little to no credit, but soon will, along with lots of moola, because of your education. Use this time wisely; get a student credit card.
- Apply for a secured credit card – A secured credit card is one that has security backing of some kind. These types of cards can be obtained at places like credit unions, which give you a card and use your money to back the card.
- Apply for a store credit card – Retail stores are dying to give you credit. Why? They make a killing off of you after you get it. This is an awful trap to fall into (for more read our upcoming article The 7 great financial disciplines). We are going to assume that you are smarter than the person who gets the Banana Republic card, then buys $3000 worth of overpriced clothing. You need to use the temptation strategies of retail stores to your advantage. Bottom line, these are easy cards to obtain, so if you are having trouble building credit, get a store card.
- Make some payments… ON TIME! – One wouldn’t think this is rocket science, but if you want to get good credit (i.e. show credit worthiness) MAKE YOUR PAYMENTS ON TIME. You need to show a history of being able to make payments, so once you get that store card, or student card, or line of credit, build a small balance and make some payments… ON TIME!
- Be patient – Just like a job resume, building your credit resume doesn’t happen overnight. Be diligent and patient. It will likely take at least 6 months of making payments, showing income, and building credit lines in order to start seeing some results. In six months, start again with step 1 and see where you are at.
Give me some feedback and let me know if this is of any help to you.
