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Establishing Positive Credit (Part I of II)

Some folks, especially young people have a problem called a “thin credit file”, this means that you have either not established any credit at all, or not enough to get a credit rating. In this case most creditors will not extend credit because they see you as high risk.

Many people who have fallen on hard times can fall into the trap of becoming a cash payer only. While this may keep you from having late payments, charge offs, or collections on your credit report in the future, it won’t help improve your credit standing either.

If you have plans in your future to make major purchases on credit like a new home or automobile you are going to need to establish some positive credit accounts. Even if you have had a major problem in the past like a bankruptcy you can still regain a positive credit score if you follow the right strategy after the bankruptcy. Whether you’re young with no credit, or have had some credit problems in the past, if your financial situation is now stable you should be able to start developing habits to build a strong credit rating.

One of the first steps on the path to developing good credit habits is to open a Savings and Checking account. While doing this does not affect the credit scoring model, it may have a positive effect on your overall credit score through what is called a scorecard. Also, creditors will be more comfortable loaning money to you because they know you have a way to save money and make payments.

If your credit scores are very low you might even have trouble even opening a bank account. If this is the case try a local Credit Union which typically is easier to deal with if you are credit challenged. This is true whether you need to open a new account or a loan. Once you find a Bank or Credit Union you like stick with them, the longer your personal business relationship is the easier it will be to obtain credit in the future.

When starting to build a positive credit history it is best to think small. By opening small credit accounts or loans, and handling them properly your creditors will gain confidence in you and will eventually give you larger accounts. Each account you handle in the correct way is a step in building a strong credit rating.

After you have a Savings and Checking account set up make an appointment with an Account Representative at your new Bank or Credit Union. Be honest with them about your past credit history. Tell them that your problems are in the past and you are working to build your credit profile. Tell them you would like to get either a credit card or small loan to help start building a poitive credit history.

They will pull a credit report and tell you what they can or can’t do for you. If your credit scores fall within their parameters they may give you an unsecured credit card or an unsecured signature loan with a very small limit to get you started. If they do you are on your way to a brighter credit future. Use these loans for items you can afford, or items you would have bought anyway with cash. Make sure you make all your payments early or on time, this will build your credit rating.  If not you may go right back to a bleak credit future.

If your credit scores are so low they will not give you any unsecured credit you still have some options. Ask the Account Representative if they have any secured credit programs you may be eligible for.

A great place to start is a secured credit card account. A secured account is one where you secure the credit with some type of collateral (real estate, automobile, or cash). An example would be; your bank might ask that you put $200.00 into an escrow account at the bank to secure the credit card. Then they will issue you a credit card with a limit of $200.00, there are typically some fees attached to these cards like a set up fee and/or an annual fee. Make sure you ask the Account Representative about these terms, and make sure that they will report this account to all three of the credit bureaus. Once you get your account set up you will have a positive revolving (credit card) account reporting on your credit report.

Once you have your new Secured Credit Card how you use it is equally important as getting it. You do need to use it, but you do not want to max it out or buy needless items that will hurt your financial budget. I recommend that each month you buy something with the card you would have purchased any way; like a tank of gas or a bag of groceries. Do not go over 30% of the cards limit ($200.00 limit x 30% = $60.00). Make sure you pay the bill when it arrives. Each month repeat this and your credit rating will improve. After doing this for 12 to 18 months most banks and credit unions will return your escrow deposit and will now trust you with an unsecured credit card account. They may also raise your credit card limit. Both of these events will also help to build your credit rating. Remember to keep using the card, do not go over 30% of the limit, and always pay your bill early or on time!

If your bank or credit union will not give you a small unsecured loan, ask the Account Representative if a secured loan is available. A secured loan is very similar to the secured credit card. They will give you a loan based on some type of collateral (real estate, automobile, or cash). If you were to default on this loan they would have the legal right to use the collateral as repayment for the loan.

Let’s say you needed to by a couple of tires for your vehicle and you have saved up the money to purchase these tires. Great, but if you go pay cash for the tires you will not help your credit rating. However, if you put the cash in the bank to secure a loan for the tires, then pay for the tires with the banks money you are establishing a positive account. Now pay back the bank over time with several installments and the bank will close out the account and return your collateral or deposit. Now you have a recent positive installment account reporting on your credit bureau.

Check back tomorrow to read part II of this mini-series on establishing good credit.

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