Deep Dives

Building Your Credit

Your credit score is a number between 300-850 that lenders use to determine your creditworthiness, or the likelihood that you will repay a loan. The higher the score, the better you are in the eyes of the lenders.

July 11, 2022

What is a Credit Score?

Your credit score is a number between 300-850 that lenders use to determine your creditworthiness, or the likelihood that you will repay a loan. The higher the score, the better you are in the eyes of lenders. This score is based on a variety of factors including payment history, credit utilization, length of credit history, etc. A good credit score can help you qualify for loans and get better rates on such loans, qualify you for lower insurance premiums, and sometimes even impact your job prospects. 

Going from 0 to 60 (figuratively of course, a credit score of 60 won’t cut it)

You don’t start out with credit. Once you are a legal adult (age 18 in the US), you can start applying for loans. But without credit it’s hard to get started (the “chicken before the egg” problem). There are steps you can take to build credit initially: 

  1. Secured Loans: Banks often offer secured loans or credit cards. These are “pseudo” loans in a sense that you can borrow money but it is secured against your bank account or another asset. If you don’t repay the loan, the borrower has the right to go after your assets to collect on the debt therefore greatly reducing the chances of non-repayment. 
  2. Get a co-signer: If this is your first time borrowing, you can have a friend or relative cosign your loan. In this case the lender can collect on the debt from either of the co-signers (borrowers) therefore increasing their chances of being repaid. Often your first apartment or auto loan may require a co-signer if you haven’t built any credit. 
  3. Authorized User: You can start building credit before age 18 with help. A parent or family member can open a credit card and add you as an authorized user as early as age 13. As long as the primary account owner makes the payments on time and maintains a responsible balance, your credit score (as an authorized user) will be positively impacted. However as an authorized user, you have the ability to spend on the credit line and the primary account owner is required to repay the debt. Be responsible, you don’t want to burn a bridge! 
  4. Pay Student Loan Payments: This may be your first borrowing experience, and provides an opportunity to start building credit by consistently making your payments on time. 

What’s a Good Score?

Similar to standardized test scores where the number seems arbitrary (why can’t it just be out of 100!), credit scores are based on a scale of 300-850. A score above 700 is generally considered good. Below is a breakdown of scores and the percentage of people in each category:

Percentage of Americans at each credit score

As mentioned above, your credit score greatly impacts your financial life. In the table below, you can see the benefits (and penalties) of credit score ranges and how they can affect various aspects of your finances:

Impact at varying credit scores

How do you maintain your good credit score? 

We’re glad you asked! A good credit score will help qualify you for better interest rates on your loans (i.e. home loans, auto loans etc). To maintain your good credit score, we recommend the following: 

  • Pay off credit cards monthly. 
  • Pay installment loans on time (auto loans, student loans, etc). 
  • Don’t max out your credit lines 
  • Don’t apply for a line of credit unless you need to (your credit score is negatively impacted every time you apply for a new loan). 
  • Regularly review your credit report for fraud or inaccurate information. If you see inaccurate information there is a dispute process. 

Don’t let your debt run away with you

Sometimes borrowing large sums of money can be scary. Here are some tips to make sure you don’t let your debt get out of control: 

  1. Freeze your credit cards (literally). I heard about this from my sister and it made me smile. She freezes her cards in a cup of water. You can use your credit card to automatically pay recurring bills (i.e. utility bill, cell phone bill, etc). Set up automatic payments from your checking account to pay off this credit card each month. This way you’re using your credit, but not accumulating a balance. Once it’s all automated you can freeze your cards. A few inches of ice is a simple barrier to put in place so you don’t use this card for frivolous spending that you’ll later regret. 
  2. Prioritize high interest debt first. If you’re balancing multiple debt payments, likely you should pay off the debts with highest interest rates first (usually credit cards) to reduce the overall amount of interest you pay over time. Then work on debts with mid-level interest rates like student loans and auto loans. 
  3. Create a sustainable budget. Spending within your means will allow you to avoid accumulating debt, and set you up for financial success

Decisions you make now to build credit and spend responsibly will impact your future financial success. A good credit score can make it easier to achieve your financial goals through cheaper borrowing costs so make sure you’re starting your credit journey on the right foot.

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