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Good credit – I want that!

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Did you know that there are now dating websites where potential partners provide their credit score for you to check out? People know it’s important to have good credit. But, there’s still a lot of confusion about how to actually build and keep a good credit report.

First of all, what is a credit report?

In a nutshell, it’s a report that looks at some of your bill-paying history, your applications for credit, and public-record information about you like bankruptcies, liens, and foreclosures.

Credit-reporting companies (the big three are Equifax, Experian and TransUnion) collect this information, organize it into reports, and sell the reports to businesses so they can make decisions about whether to lend to you, and at what rate. Businesses believe that how you’ve handled credit in the past predicts how you will handle credit in the future – and how risky it would be to take you on as a customer.

Based on your credit reports, you will be given a credit score by the credit-reporting companies. You don’t just have one credit score – each company does their own. And there can be other scores, too; the ones businesses use most are calculated for each of your credit reports using formulas from the Fair Isaac Corporation (FICO.) Lenders use these scores as a quick and convenient way to decide whether or not to do business with you, or on what terms. A low credit score can lead to things like your being turned down when you want to rent an apartment, paying a bigger deposit for a cell phone contract, or being charged a higher rate of interest for a car loan or credit card.

Don’t forget that credit reports are also sometimes used by employers to decide whether or not they want to hire you. And, the military looks at credit reports when deciding if you’re eligible to get or keep a security clearance.

So, what builds good credit?

  • Pay your bills on time, every time. An automatic payment from your bank can be a good way to do that, but make sure you keep an eye on your balance so you always have enough in your account to cover the payment. You don’t want it to bounce.
  • Don’t get too close to your credit limit. Credit scoring models look at how close you are to being “maxed out” on credit cards. If you use too much of your total credit lines, say by carrying big balances, you can hurt your credit score. Experts advise keeping your use of credit at no more than 30% of your total credit limit – some even say you should keep it at less than 10%.
  • Don’t apply for too much credit in a short time. Your credit score may go down if you apply for or open a lot of new accounts in a short time. Buying something and want the discount that comes with opening a new store card? Transferring balances from an old card to a new one? Do that very often and it will show up on your credit report as lots of new credit accounts, which is likely to hurt your credit score.
  • The more extensive your credit history, the better. Credit scores are partly based on experience over time. The more evidence you have on how you get and pay for credit, the more information there is to determine whether you are a good credit risk.

Here are some more ideas:

  • Buying things with a debit card or cash will not build your credit score. Some people are afraid of getting into trouble with credit cards, so they vow never to have one. The problem is, buying things with cash or using a debit card doesn’t establish a credit repayment history that will be reported to a credit-reporting company. So when you do need a loan for a big-ticket item like a car or home, you won’t have the credit file to make a lender willing to take a chance on you.
  • Pay with a credit card to build credit but try not to carry a balance and make sure you pay your bill on time. You’ll build credit by using your credit card even if you pay off your balances in full each month. And, you’ll avoid finance charges since these only kick in when you carry over a balance from month to month, which is what happens when you pay only the minimum amount due or any other amount less than the full balance owed each month.
  • If you can’t qualify for a regular credit card, a “secured card account” that you put a deposit on can build credit, too. You can get a secured card from many banks or credit unions. With most of these cards your credit line starts out small, but as you demonstrate reliable payments, most companies will extend you more credit and eventually refund your deposit. Secured cards can be expensive and often come with a number of different fees, though, so before you resort to a secured card consider applying to see if you can be approved for a regular credit card with attractive features and pricing.
  • File an “active-duty alert” with the credit-reporting companies before you go on deployment. This makes businesses verify your identity before they issue credit in your name and should help protect you from identity theft. If you want to go even farther, you can freeze your credit. A freeze prevents prospective creditors from accessing your credit file at all, which will keep any new accounts from being opened in your name. There may be a small charge to set up a freeze, unless you are a victim of identity theft. If you decide to freeze your credit, you’ll have to set up the freezes separately with each of the three big credit-reporting companies: TransUnion, Equifax, and Experian.
  • Keep an eye on your credit reports. You can get a free copy of your credit report from each of the three major credit-reporting companies every year at www.annualcreditreport.com. There’s a chance you may find incorrect information that is bringing your score down. If you do, file a dispute with the credit-reporting company.

For more information about credit reports and credit scores visit Ask CFPB at www.consumerfinance.gov/askcfpb.

  • http://twitter.com/john_econ_71105 JT

    The credit score models that companies use are too opaque. CPFB should require these companies to disclose the factors and weighting they use to determine credit scores as well as comparisons of their scoring models (1) across a range of individuals with various credit histories and (2) against actual delinquencies.

  • Elizabeth

    CFPB should encourage greater use of utility and telecom payments to build credit. These services ARE credit and they are predictive of someone’s ability and willingness to repay. Some of the credit bureaus use this data already but not enough utility and telecom firms report. Such bills are a great way to build a credit score without debt.

    • http://twitter.com/Steve_Ely Steve_Ely

      eCredable is a Credit Reporting Agency that allows consumers to use bills like rent, utilities, and insurance to demonstrate their creditworthiness, even if they don’t have a traditional credit history (which you need to produce a traditional credit score). (Full Disclosure – I am the CEO).

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