How To Build, Repair, And Diversify Your Credit

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Rewards cards in the U.S. can be extremely lucrative, particularly in the travel sector. But what are your options if you’re still building your credit, or otherwise don’t have those Very Good to Excellent credit scores that you need to be approved for the most rewarding credit cards?

We’ve written in the past about the best ways to start obtaining credit as a college student, and many of those tips apply for people who aren’t necessarily students.

I received dozens of questions from folks at the Chicago Seminars last weekend about how to help build credit for immigrant spouses, adult children, those who just don’t have quite the score they need, and similar circumstances, so thought it would be helpful to go through some of the options for improving and diversifying your credit portfolio.

As always, if you’ve gone through these processes yourself please share your experiences in the comments!

Secured credit cards

While a pre-paid card can be convenient, it won’t help build your credit. As long as you have enough credit established to open a bank account (with a co-signer, if necessary), and haven’t a bankruptcy in the past two years, you can probably get a secured line of credit.

Secured credit cards work by requiring you to deposit $x in a specific account, which then is used as collateral against the credit limit. You can use your secured card just like a normal card, and then pay your bill as normal. The idea is that should you not pay your bill, the bank hasn’t really lost anything — they can just claim your deposit money.

But obviously, you want to pay your bill on time, as that’s what is going to help build your credit.

Secured cards generally start with a low limit, that is typically roughly equal to the deposit required. Over time, as you show that you can responsibly use your credit line and make timely payments, these limits can be increased.

In the interim, a good secured card will report to the credit bureaus each month. A full 35% of your credit score is based on your on-time payment history, so showing these reliable payments can make a big impact if you don’t have much credit history.

There are several options for secured cards, including:

  • The Capital One® Secured Mastercard® offers a $200 credit line to start, with a deposit amount ranging from $49, $99, or $200, based on your credit worthiness
  • The Citi® Secured Mastercard® requires a minimum $200 security deposit, but may also offer the option for a higher limit (with a higher deposit)

Many local banks and credit unions offer some variation of a secured card, so if you have an institution you already like working with, you can check there as well. Just make sure the account you’re opening reports to all three of the major U.S. credit bureaus every month (and that you pay on time!), and that you’re working with a reliable and legitimate financial institution.

Installment loans

While the types of credit you have only accounts for 10% of your score, it’s still an area where you can improve your score by being strategic.

Credit cards are considered “revolving” lines of credit — you charge some, you pay some, you charge some, you pay some, etc. Money is always moving in and out.

“Installment” loans are those that have a starting balance, and that you pay over time. So things like mortgages, car loans, and so forth would fall into this category.

For those of us who have a lot of credit cards, adding an installment loan can improve your credit profile by diversifying the types of credit you have. If you are adding lots of revolving credit accounts, in a short period of time, it can look a bit risky to banks (and their credit analysts) compared to a more balanced portfolio.

And again, on-time payments has such a huge impact on your score, and in addition to bringing diversity to your credit, an installment loan will also report your payment frequency, so there’s a bit of a double-dip.

So if you’re considering purchasing a car, for example, it can make sense to take out a bit of a loan even if you were planning on paying cash. Even a very small installment loan will show favorably on your credit.

If you don’t have a need for home or car loans, you can still get an installment loan, using similar tactics as you’d use to get a secured card. Again, you want to work with a reputable financial institution here, not a payday loan place or something.

An alternative to installment loans

Another tactic that I’ve heard people have success with is Self Lender.

While this reports on your credit as an installment loan, you aren’t actually borrowing the money up front. Instead, you commit to saving/depositing a certain amount each month, and then get the funds (minus the Self Lender fees) at the end of the term:

Unlike a traditional loan, a credit builder account does not allow you to immediately withdraw the money upfront. Instead, your 12-month or 24-month loan is immediately placed into a FDIC-insured, 12-month or 24-month certificate of deposit (“CD”) account. The CD account is held in your name at Sunrise Banks, N.A. or Lead Bank. These funds are locked and not available for withdrawal until the loan is paid in full.

For example, if you have a $1,000 credit builder account that started on today with a 12-month term. Your CD would mature on 12 months from today with $1,001.00.

It’s a pretty cool program, and worth checking out if you’re building or repairing your credit.

Become an authorized user

Another 15% of your score is your credit history or age of credit, so obviously if you don’t have much established credit that can significantly impact your score.

One thing that can help is becoming an authorized user on an account of someone who has a lengthy credit history. For both Ben and I, for example, we were authorized users on our respective parents’ Amex cards as teenagers, which helped bolster our credit scores, because they’d had their cards for so long.

So if you are trying to help a family member build credit, consider adding them as an authorized user to one of your older accounts. You don’t even need to give them the physical card — as long as you continue to manage your credit responsibly they’ll reap some of the reporting benefits.

Bottom line

Overall, demonstrating financial responsibility over a long period of time is the best way to improve and build your credit score. But there are a few tactics you can use to accelerate that timeline, or diversify your overall credit portfolio if you have too many revolving accounts.

Have you helped someone build or improve their credit in the U.S.? What did you do?

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Comments

  1. Thanks, Tiffany. I had no idea AU helped build credit history/creditworthiness. Been giving my kids gas cards and AmEx cards for several years (and like Ben’s above, the “Member Since” predates their births as well! LOL).
    I also suggested to my kids to sign up for a credit report site (Credit Karma, in this case), to see their actual situations.
    As you stressed, open easily managed, smalller accounts, and pay your bills on time. My wife came into our marriage with damaged credit and lousy scores, but today, after several years of 100% on-time paid-in-full accounts, her credit scores usually top my mid-810’s.

  2. Hi Tiffany, how young can aurhorized users be on different credit cards (for the purposes of helping kids build good credit scores)? What is the best and earliest option? Seems like it is not Amex.

  3. @ TC — Amex is actually a great option, given how they handle authorized users and social security numbers (and thus link activity to a credit file), and you can add your kids starting at age 13. Citi and Chase don’t require a SSN, and don’t seem to have an age limit, but I believe you can call and add the SSN of your authorized user.

  4. @ Lawrence Brohman — If you have their SSNs linked to the cards (which, if they’re Amex, you do), then yep, they should be benefitting!

  5. This is great information that everyone needs to know. Thanks for sharing.

    Great job this weekend at the Chicago Seminars. Safe return travels.

  6. You can also create synthetic identities to dramatically improve credit scores if you know the right person.

    – the right person

  7. I was told by chase that since AU’s have the same card number, and they don’t take SSN’s that it won’t report on your credit score. Anyone know if this is correct?

  8. I am currently happy with my credit score, but aside from my credit cards (and I have many), my only other debt consists of student loans. Is it bad to pay these loans off because of the impact on my credit score? Should I do anything to mitigate this or be concerned?

  9. @ Dan — Not necessarily. If you can pay off your student loans, that’s obviously great from a long-term financial perspective. You can always add a future and smaller installment loan if you need the score bump. Some credit unions will offer installment loans as low as $500, so there are options that would have you paying minimal interest.

  10. I would venture, to the contrary, that paying off your student loans early should depend on the loan’s interest rate. If you have a higher interest rate and cannot consolidate to get a lower rate, then it will make sense to pay it off as quickly as possible.

    In my instance, the exact opposite is true – I was able to consolidate my loans about a decade ago at a rate of 2.25 percent (which ended up dropping to 2 percent after three years of on-time payments). With the rate that low, I have absolutely no incentive to pay the loans off any faster than I have to, especially now that interest rates on even the simplest online savings accounts mean that I would make more money in interest than I would save by paying off the loan early.

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