Building credit doesn’t exactly sound like one of the most exciting things to do when you’re young.
What is it, exactly? Why is it important to “build credit” at a young age? And by young, we mean at least 18, but maybe closer to 21 or older.
Building credit is another way to say that you’re establishing credit. It’s creating a positive credit history that will affect your life for years to come.
It’s much more than using a credit card to buy things.
Why a Good Start is Important
A bad start in using credit won’t lead you to a life of financial gloom and doom. But a good start will make things a lot easier.
Having a good credit history early in your adult life can make a lot of things easier. Among them are:
- A first job
- Getting an apartment
- Buying a car
- Qualifying for the best auto insurance rates
- Getting a credit card with a low interest rate
- Qualifying for a corporate credit card
- Having a cell phone and utilities in your name
- Not paying additional security deposits
- Reserve a car, hotel room or airline tickets
A good credit score means you’re less of a risk to any of the above entities: employers, landlords, car dealers and lenders, insurers, credit card companies, and businesses that might otherwise require a security deposit for something you want to use.
For less risk, they’re more likely to do business with you and can make some things cheaper, such as loans.
Traveling for work may require you to have a good credit history so you can qualify for a corporate credit card. The card is used to rent a car, buy airline tickets, pay hotel bills and take clients out to dinner. You’ll be reimbursed to pay for the charges, but most company credit cards are personal accounts.
The Biggest Reason to Establish Good Credit Early
But forgot those lower expenses and being approved for apartment leases. The biggest benefit of building good credit when you’re young is to your future self.
Buying your first car with a good auto loan at a low rate is great, but wait until you want to buy a house. Then you’ll really see the advantages of having good credit.
A good credit score can be 1% lower than a fair score when getting a home loan. Improve your score to excellent and the annual percentage rate could be 2% lower than for someone with a fair score.
A 30-year fixed loan of $200,000 at 2.7% for someone with an excellent credit score would cost $814 per month, and the total interest paid would be $93,057, according to a loan savings calculator at myFICO.
A good credit score would lead to a 3.3% APR for a monthly payment of $880, and $116,916 in total interest paid. That’s almost $24,000 more in interest by having an excellent credit score.
If a score drops to fair, the interest rate would be 4.3% and the monthly payment is $992, for $156,984 in total interest. That’s $40,000 more than what the borrower with good credit would pay in interest.
How to Open Your First Credit Account
Without credit in your name, opening your first credit account can be difficult.
One way to do it is to become an authorized user or joint credit card account holder on your parents’ credit card. This will help you learn the credit process, including making a charge, paying the bill, and how to manage credit on your own someday.
Another way to get your first credit card is to apply for a secured credit card. You pay the bank a deposit, such as $500, to be used as your credit limit on the card. If you don’t make payments on your charges, then the deposit is used by the bank.
You can get the deposit back if you close the account and it hasn’t been used to pay for charges you’ve made. Using the account responsibly can lead to the lender converting the card to a traditional credit card account.
A store charge card can also help establish credit, such as a card from Macy’s, Kohl’s or other store where only the company’s card can be used.
Once you’ve got a credit card in hand, it’s time to start using it.
And no, we don’t mean going on a spending spree.
Use it for recurring purchases, such as a Netflix subscription, and buy a few things you’d normally buy anyway.
When the bill arrives in about a month, pay it off completely. You can still make charges, but just be sure they’re ones you can afford to pay off when the bill comes due.
That’s the best way to build credit: paying your bills on time and in full. It’s the best way to show you’re responsible with credit.
Here are some other things to do to establish good credit:
- Use only up to 30% of your available credit
- Pay all of your bills on time, not just credit card bills
- Keep credit card accounts open for years
- Dispute inaccuracies on your credit reports
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