How to Build Credit

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Payment History to Build Credit

If we were to rate the one thing that would mostly affect your ability to build credit, it would be your Payment History. At the end of the day, Creditors are interested in seeing how you would make your payments, and your history with others is an indicator of if they will make money or not.

How to build credit on your history:

  • Always make your payments on time
  • The minimum payment should always be made before or on the due date. 
  • If you expect issues in making payments please contact the creditor, since they might be accommodating – especially if you have a good reason
  • Don’t skip a payment even if a bill is in dispute. Creditors will report the information the way they have it. It would be better to pay and then retrieve the money after/if the dispute is won. If you assume you have a point and you should not make payment might result in a negative reporting.

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Credit Utilization is bad for building credit

Another factor that really affects your ability to build credit would be your Credit Utilization Rate. It is the ratio between your balance and the amount of credit granted to you. Higher this ratio, lower the score. If you do use all the money provided, it will look as if you are utilizing a lot and you are in need of credit. This would make the lender nervous and make decisions that would reflect a higher risk undertaking.

Don’t go over your credit limit. If you have a credit card with a $5,000 limit, try not to go over that limit. Borrowing more than the authorized limit on a credit card can lower your credit worthiness and make it much harder to build credit.

Try to use less than 50% of your available credit. It’s better to have a higher credit limit and use less of it each month.

For example:

  • a credit card with a $5,000 limit and an average borrowing amount of $1,000 equals a credit usage rate of 20%
  • a credit card with a $1,000 limit and an average borrowing amount of $500 equals a credit usage rate of 50%

If you use a lot of your available credit, lenders see you as a greater risk. This is true even if you pay your balance in full by the due date.

To figure out the best way to use your available credit, calculate your credit usage rate. You can do this by adding up the credit limits for all your credit products.

This includes:

  • credit cards
  • lines of credit
  • loans
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Understanding Utilization

For example, if you have a credit card with a $5,000 limit and a line of credit with a $10,000 limit, your available credit is $15,000.

Once you know how much credit you have available, calculate how much you are using. Try to use less than 35% of your available credit.

For example, if your available credit is $15,000, try not to borrow more than $5,250 at a time, which is 35% of $15,000.

Keep in mind though that if you do manage to optimize your credit usage on the card, and pay it off every month automatically, it can be an excellent way to build credit.

Use different types of credit 

A mixture of the Installment & Revolving types of credit would probably be your best case scenario.

Your score may be pushed lower if you only have one type of credit product, such as a credit card.

A mix of credit products may improve your credit score. Make sure you can pay back any money you borrow. Otherwise, you could end up hurting your score by taking on too much debt.

Think about it this way. Installment credit requires that the lender pulls money from your account. Revolving credit requires you to make the payment on the due date. A lender wants to see that you can handle all these transactions in a timely manner.

Another element would be the Comparable Trade. This element has a huge impact in the decision of a credit analyst. If you request an amount of $10.000 and you have shown that you have handled this amount in the past then any other lender would feel more comfortable to approve you for similar amounts to the $10.000 – this phenomenon of taking on loans you can handle for larger amounts of money can help you down the road when building credit as you move up the $ amount chain. 

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Think about timing when you build credit

Time in credit matters. In the credit report there is an item called “Date File Opened”. That would reflect the time you first became part of the credit report. It would be the time when a lender pulled your credit for the first time.

The longer you have a credit account open and in use, the better it is for your score. Your credit score may be lower if you have credit accounts that are relatively new.

If you transfer an older account to a new account, the new account is considered new credit.

For example, some credit card offers come with a low introductory interest rate for balance transfers. This means you can transfer your current balance to this new product. The new product is considered new credit.

Consider keeping an older account open even if you don’t need it. Use it from time to time to keep it active. Make sure there is no fee if the account is open but you don’t use it. Check your credit agreement to find out if there is a fee. Of course, it is probably not worth it if there is a fee, but if not, having an older account open on your credit report can help you build credit. 

Limit your number of credit applications or credit checks 

It’s normal and expected that you’ll apply for credit from time to time. When lenders and others ask a credit bureau for your credit report, it’s recorded as an inquiry. Inquiries are also known as credit checks.

If there are too many credit checks in your credit report, lenders may think that you’re:

  • urgently seeking credit
  • trying to live beyond your means

How to control the number of credit checks when you build credit?

To control the number of credit checks in your report:

  • limit the number of times you apply for credit
  • get your quotes from different lenders within a two-week period when shopping around for a car or a mortgage. Your inquiries will be combined and treated as a single inquiry for your credit score.
  • apply for credit only when you really need it
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“Hard hits” versus “soft hits”

“Hard Hits” are sometimes referred to as “Regular Hits”. They represent credit checks that appear in your credit report and count toward your credit score. Anyone who views your credit report will see these inquiries and as mentioned before, they can be detrimental to credit building efforts.

Examples of hard hits include:

  • an application for a credit card
  • some rental applications
  • some employment applications

“Soft hits” are credit checks that appear in your credit report but only you can see them. These credit checks don’t affect your credit score in any way.

Examples of soft hits include:

  • requesting your own credit report
  • businesses asking for your credit report to update their records about an existing account you have with them

You might also hear “Soft Hits” from the finance company you do your banking with. TD Canada Trust for example has an internal score that sometimes they use in order to decide for some quick decisions.

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