These Accounts Can Help You Build Credit
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You already know that a good credit score is essential to your financial well-being, and you might know the big things that affect your score, like payment history and the size of your debt. But did you know that having the right mix of accounts can also help increase your score?
Here’s how it works.
- Revolving accounts vs. installment accounts
- What else can help you build your credit?
- Focus on good habits
- Bottom line
Revolving accounts vs. installment accounts
The types of accounts you have on your credit report make a difference, and nearly all fall into one of two categories: revolving and installment.
Revolving accounts are those in which you might charge some amount each month and pay off some amount each month. A credit card is an example of a revolving account.
Installment accounts, on the other hand, are those in which you’ve borrowed some amount of money and will make payments for a set period to pay back the debt. A mortgage would be considered an installment account.
In general, the more you can stay on top of your revolving accounts, the better off your credit score will be. First, paying down your credit card debt lowers your credit utilization ratio, which is the amount of credit you’re using relative to your credit limit. Amounts owed makes up 30% of your FICO Score, so the lower you can keep that number, the better.
Second, revolving debt tends to affect your credit more than installment debt because it’s riskier for the lender — there’s no collateral at stake, such as your home for a mortgage. The more revolving debt you have, the riskier you look, from a credit profile point of view.
Ten percent of your credit score comes from having a mix of credit, so having an installment account alongside revolving accounts can help increase your score. A history of on-time payments and a shrinking account balance also help. Paying off an installment loan in full helps your credit in general, and the account stays on your credit for 10 years, so the effect is long term. That said, paying off your installment account early won’t make a big difference in your score, so don’t go overboard unless you want to pay it off for other reasons.
What else can help you build your credit?
The longer you’ve worked with credit, the stronger your credit history will be. But if you’re just starting out or not in the best position to get a credit card or loan, there are other options:
- Get a secured credit card. Unlike a regular credit card, secured cards are linked to a bank account or require an upfront deposit, and you typically can’t spend more on the card than you have already committed. Over time, as you use the card responsibly, pay your bills on time and keep a low balance, you’ll build enough credit to be able to apply for an unsecured card.
- Become an authorized user. If a parent or a spouse is willing, they can add you as an authorized user to their credit card account, and you can use that card as if it were your own. The card’s payment history will appear on your credit report and help build your credit history.
- Get a cosigner. If you’re trying to get a loan or a credit card and you don’t have the history to secure it yourself, having a cosigner (with good credit) can help. The loan or account, including payment history, will appear on both of your credit reports, allowing you to build credit over time. If one of you misses a payment, however, it will affect both credit reports.
- Pay your student loans responsibly. If you took on debt in college, those loans are also reported to the credit bureaus. Make sure your payments are on time, every time. If you have fallen behind on your payments and need help boosting your credit score, you can talk with a credit repair company.
- Get a secured loan. In some cases, your bank might be able to give you a loan specifically to help you build credit. You would deposit money into a bank account, borrow against that money and then make on-time payments back to the bank. These are sometimes called credit-builder loans.
Focus on good habits
Your behavior can also boost that magic credit number. Here are a few ways to keep your digits high:
- Pay on time. Payment history makes up a whopping 35% of your credit score, so it behooves you to meet your payment deadlines — all the time. If this is a problem, set up reminders for yourself each month, or set your credit cards to autopay at least the minimum so you’re never late.
- Keep charges low. If you’re constantly charging up a storm and bumping into (or close to) your credit limit, your score is going to suffer. The higher your ratio, the lower your score, and you can only lower your ratio by asking for a credit increase on a credit card, paying down some debt or applying for (and receiving) a new card — although a card application will ding your credit in the short-term.
- Don’t go ape for new credit. Applying for several new credit cards in a short time frame is viewed as risky behavior and can lower your score. Even if you just apply for one new card, it can affect your score temporarily — so it’s best not to apply for that new store card before you try for something bigger, like a mortgage or car loan.
Establishing and maintaining your credit doesn’t have to be complicated, and it doesn’t require you to open a large number of accounts. In the end, steady, consistent, on-time behavior can put you in the best position for an optimal credit score.