It takes credit to get credit. That's the catch-22 that encounters many young people when they first enter the job market.
These days, most credit card companies will not consider an applicant who has yet to establish a credit history. The problem is that getting a credit card can be a key step in establishing that history. Fortunately, there are ways to break through this obstacle.
How to get started with your first credit card
One strategy for getting a foot in the door of establishing credit is to sign up for a secured credit card. This is a card that requires a deposit as security against future charges. You still get a bill and are supposed to make payments in response, but the security deposit is there as a backstop that gives credit card companies the confidence to approve applicants with little or no credit history.
Differences between secured credit cards vs. pre-paid cards
Critically, a secured credit card is different from a pre-paid card. A pre-paid card establishes a balance in your favor that each subsequent purchase draws down. Because you are not making regular bill payments on these cards, they do not help you establish a credit history.
Even before you establish an extensive credit history with a secured credit card, using one responsibly can give you an inside track to getting an unsecured card with the same company.
Troy Dennis, head of credit card product management and acquisition at TD Bank, calls this process of moving up from a secured to an unsecured card a "graduation strategy," and notes that at his institution, it can occur in under 12 months.
Why consider a joint credit card for establishing credit
You can also get a foot in the door by signing up for a joint credit card with a parent who has an established credit history, or by signing up for a store credit card because their standards are less demanding than those of bank credit cards. However, Dennis advises that credit reporting bureaus will view these approaches as having limits in terms of your establishing an independent credit history.
Note that even with a secured credit card, you must demonstrate a reliable stream of income and have no serious black marks on your credit history to get approved.
6 tips to establish a positive credit history
So you get your foot in the door. Now, how do you go about establishing a credit history that will give you easier access to credit and on more favorable interest rates?
Follow these six tips:
1. Use your card regularly
Simply getting a credit card and holding onto it for a while does little to help establish a credit history. You might think you are being conservative by not using your card to spend money, but credit bureaus want to see a pattern of usage and on-time payments.
2. Budget your credit usage
While it helps to use your card regularly, this does not mean you should use it indiscriminately. There are two keys here. One is to avoid getting in over your head by racking up charges you can't repay. The other is to stay away from stretching your credit usage to the limit, which is something credit bureaus do not view favorably. Strive to keep your balance below half of your credit limit at any given time.
3. Pay your bills on time
Besides making sure you can afford to pay off any charges you make, get organized to pay the bills on time. This responsiveness and reliability is what credit bureaus want to see.
4. Don't be satisfied with minimum payments
Credit card bills show a minimum payment you have to make by the due date, and while this may satisfy the credit card company, you should be looking to pay the balance off in full. This will make your credit history look even better while allowing you to avoid expensive interest charges. You can also use a credit card calculator to determine the monthly payment amounts you'll need to make to pay off your credit card.
5. Look to upgrade your card
Secured or not, cards for first-time users typically have very high interest rates. As soon as you establish a decent credit history, you should look to upgrade to a card with a better credit card rate. As noted previously, you may have the best chance of doing this with your existing credit card company, but don't be afraid to shop around as well.
6. Be selective about adding credit cards
Just because you've reached the point where you can get credit readily, pick any additional credit cards carefully. Opening up too many lines of credit can hurt your credit rating - and become a temptation that gets you into trouble.
Credit is a responsibility, not a right. You not only have to earn credit to get it initially, but you must continue to earn it through responsible behavior to hold onto it.
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