Happy Birthday, you’ve just turned 18. Maybe you got a car for your birthday. Maybe your parents are throwing you a great party. Whatever your gift happens to be, it’s unlikely that you’re thinking about your credit scores…although you should be. Now that you’re 18 you’re what I refer to as “fair game”, which means lenders can ramp up their attempts to get you to start a relationship with them. That “relationship” can be to take out a credit card, open a small credit building loan or something else. Regardless, you’re about to become “in the system” and doing it the right way will pay dividends for the better part of the rest of your life.
There are a variety of ways to build a solid credit score. And, conversely, there are a variety of ways you won’t build a solid credit score. Here are a few of the more common methods;
Secured Credit Cards
A secured credit card is, in fact, a credit card. The difference between a secured card and other credit cards, like those which are probably used by your parents, is that you have to make a deposit with a bank before you can get the card. The credit limit on the secured card will be equal to the amount you’ve deposited with the bank. So, if you deposit $300 with the bank you’ll get a credit card with a $300 credit limit. Any charges you make on that card have already been prepaid to the bank so there risk of giving you a card is non-existent. They’re fully “secured”, hence the name. Most banks report your activity on secured cards to the credit bureaus and if you manage it properly, meaning you don’t miss payments or max it out all the time, they’re be very helpful to your credit scores.
An authorized user is someone who has been added to the credit card belonging to another person. This is probably the most common and effective way of building a solid credit score. The authorized user gets a card with their name on it and can use it just like the primary cardholder. But, the authorized user is not responsible for making the payments on the card. And, because the credit card has been reported on the credit report belonging to the authorized user, it will likely help your credit scores. Be careful though…any abuse of the card will also show up on your credit reports and can hurt your scores. That means if the card’s balance is too close to the card’s credit limit or if payments are being missed by the primary cardholder your scores will suffer.
Credit Building Loans
A credit building loan is exactly what the name implies. These loans, offered by some credit unions, are for very small amounts, normally not more than $1,000. The credit union holds the money an interest bearing account on YOUR behalf and after you’ve made all of your monthly payments to exhaust the debt they release the money to you. They report your payment history to the credit bureaus and can be very helpful to your credit scores. NOTE: Make sure the credit union does report their loans to all three credit bureaus. That way you’ll get maximum benefit.
There’s no way I’d suggest that an 18 year old go out and borrow a large amount of money in order to build their credit scores. The three above options are either free of very inexpensive. However, if you are in the market for a car or tuition then taking out a loan is yet another way to build a strong credit score.
Traditional Credit Card
New Federal laws prevent credit card issuers from giving someone under 21 a credit card unless they have a co-signer or the ability to make payments. That makes this particular strategy more difficult than it was for your older brother or sister. Still, if you have a job you can get a credit card even before you turn 21. Choose a card from a major issuer like Discover, American Express, one of the mega banks or a credit union. But, choose one that doesn’t have an annual fee. Don’t get all wrapped up with the interest rates, they’re all terrible (15% average). Your goal is to never carry a balance from one month to the next therefore rendering the interest rate meaningless.
Whichever option you choose there are only three things you have to do in order to build a great credit score.
1. Make all payments on time, no exceptions. The due date is NOT a suggestion. The lender really does want their money by the due date.
2. Do not run up large balances on credit cards. This is almost as damaging to your credit score as missing payments. You have to keep your balances low relative to your credit limits. Shoot for no more than 10%.
3. Do not apply for credit excessively. Shopping for credit is fine. Shopping for credit all the time is not fine.
Your credit report and credit score are no joke. They’ll either help you or prevent you from getting mortgages, auto loans, credit cards, cellular service, insurance and credit reports can be used by employers as part of their screening process. You’ll spend the better part of your life working to build a nestegg for you and yours and one of the easier ways to build wealth is to pay less for things you know you’re going to have to finance, like homes and cars. Having great credit score IS a wealth building strategy.
Credit Reporting Expert, John Ulzheimer, is the President of Consumer Education at SmartCredit.com, the credit blogger for Mint.com, and a Contributor for the National Foundation for Credit Counseling. He is an expert on credit reporting, credit scoring and identity theft. Formerly of FICO, Equifax and Credit.com, John is the only recognized credit expert who actually comes from the credit industry. Follow him on Twitter here.