Freshly-minted college grads often have a tough time finding what they want to do in their first job. It’s usually not going to be the dream position for the hottest employer, but rather a low-level 9-5 corporate gig. It takes experience and further skills to work one’s way up the ladder. Young people often find it frustrating that decent jobs require experience, but the only way to get experience is by having a decent job! A lousy paradox.
We all go through that stage. I was there. You were there. Or maybe you are going through it now. It’s normal. It’ll be alright. Now, what does all that have to do with building credit? Well, much like building a solid foundation for your career, you have to take small steps today to establish a good credit history. You will reap the rewards (quite literally) later in life.
So how do you go about building a good credit foundation? It’s easy! One of the best ways to safely and easily establish some credit history is by applying for a low-balance, high-interest rate credit card.
But wait, that sounds like terrible advice! A high-interest rate credit card??
Yes – it can be risky IF you don’t pay it off in full each month. That’s the key. Much like accepting an entry-level job out of college that isn’t very fun, you must acquire a very basic credit card to get started building your history. So let’s say you are approved for a $500 max balance, 20% interest rate card – now what?
Don’t use up more than about 10% of the credit limit. For our above example, don’t put more than $50 on the card at once. I know that sounds like peanuts – it’s only a few months of Netflix for goodness sake! But our goal here is to cultivate a good credit score over time, not overnight. Also, pay it off IN FULL each month. Do NOT run a ‘balance’ – meaning don’t just pay the minimum amount due lest you want to pay that heaping interest rate.
So do that for 3-6 months, then take another baby step by applying for a little bit better card. Maybe one with some basic rewards like 1% cashback everywhere. You will likely get approved for a few thousand dollars this time. You can see how your credit history & reputation snowball is working already. Be sure to keep your first credit card account open though – closing it will ding your score by reducing your total available credit.
After a year or so, look into other forms of credit to diversify your credit portfolio. Of course, you may already have a car loan, student loans, and other types of credit that help to diversify your profile. Why is diversification of credit types good? Lenders like to see a good mix of debt among borrowers when they go about the credit analysis and approval process.
Again, the usual financial advisor PSA – pay off your credit card debt in full each month and be sure to always pay your other monthly debts payments on time.
Once you have a few types of credit under your belt and you have several years of paying off debt on time like a good steward in today’s economy, you are in great shape! One of the goals of growing your credit score is to ensure you get the best interest rates possible on big-ticket items like your mortgage.
You can go to websites like CreditKarma.com to check out your score. If it is above 760, then you are probably ready to apply for a mortgage or refinance to the lowest possible rate.
What’s also cool about having a great credit score? You are in prime position to take advantage of credit card rewards.
Many blogs are out there will outline the best strategies for reaping credit card rewards in the most optimal way – whether you like to travel, get cashback, are a business owner, or just want a good card to pay for gas. Definitely check those out, but the moment you miss a payment, you need to re-assess what you are doing. Rewards are great, but don’t let it bite you in the butt in the form of a late payment or racking up a ton of debt.
Here’s the point
- Building a credit profile is like building a snowman – you need to start small, cultivate the process, and watch it grow.
- A small balance card with a high stated interest rate is actually a good way to get your credit history established.
- Once you have a few years of credit history and some diversity in your mix of account types, you are in a good place to now take advantage of the heavy-hitting items like a car loan, student debt refinancing, or a mortgage.
- Credit card rewards are fun, just be wise and prudent when taking advantage of those offers and programs.
Action items
- Are you fresh out of school, looking to build credit? Go to a site like CreditCards.com to find a card for people with limited credit history.
- Check your credit score on CreditKarma.com (reviewing your credit profile here won’t ding your credit score). Plus, this site has neat tools to help you analyze your credit situation.
- Are you looking to buy a house or refinance your mortgage? Sit down with TFC first to run the numbers and to help ensure your cash flow is in the right place.
Features Image: Photo by Pikwixard