Building credit from scratch when you have no history

If you’ve never had a loan or credit card, lenders have little to go on. A few types of products are designed to help you start a credit history, and the CFPB says that building good credit takes time.

Why a credit history matters

The CFPB explains that good credit can help you get housing, bank accounts, credit cards and loans, and can lower the interest you pay. The payments you make on many loans and cards are reported to the three nationwide credit reporting companies, which use that information to build your credit report.

The CFPB puts the core idea simply: paying on time, every time, can help you build a strong credit history and lower your costs for borrowing in the future. If you’re not sure where to start, the CFPB suggests asking your bank, credit union or a local nonprofit credit counseling agency about products for building credit.

Products that can help you start

Secured credit cards

With a secured card, you put down a cash deposit and get a credit line that matches it. The CFPB describes applying for one the same way you’d apply for a regular credit card. Once you’re approved, you make the deposit, which the bank holds in a separate account. A CFPB guide gives a range of $50 to $300 as an example of what that deposit might be.

Things to know before you choose one:

• Ask about reporting. The CFPB says you can generally build credit with a secured card, but you should ask the issuer whether it reports to the credit reporting companies.
• Watch the fees. The FTC says secured cards generally, but not always, have higher interest rates and annual fees than unsecured cards. Some also charge activation or monthly maintenance fees, and fees reduce your available credit.
• Your deposit is tied up. The FTC notes the deposit may be as much as 100 percent of your credit limit. It’s usually returned when you pay off the balance and close the account.
• Moving on. The CFPB says many secured cards let you “graduate” to a traditional card after a pattern of consistent payments, and the FTC says a secured card might eventually help you qualify for an unsecured one.

The FTC also points out that secured cards come with the same legal protections as other credit cards. Read the card agreement before you apply. The FTC notes that issuers post their agreements online.

Credit-builder loans

A credit-builder loan works in reverse from a typical loan. The CFPB explains that a bank or credit union holds the loan amount for you in a savings account instead of handing it to you. You repay it in small amounts, usually over six to 24 months, and then you get the money back.

The CFPB says these payments are reported to the credit reporting companies, and the loan builds savings at the same time. Credit unions are a common source.

Retail and store cards

Stores, gas stations and other businesses may offer their own credit cards. The CFPB says these often come with a relatively low credit limit, which makes it less likely you’ll run up a high balance.

Products that generally don’t build credit

Some common tools don’t help you build a credit history, because they aren’t reported to the nationwide credit bureaus or don’t involve borrowing. The CFPB lists:

• Debit cards and cash. You aren’t borrowing, so they don’t show you can repay a debt.
• Prepaid cards. You spend money you’ve already loaded. The FTC adds that most prepaid cards aren’t reported to credit bureaus.
• Payday loans. Even on-time payments aren’t reported or included in your credit reports.
• “Buy here, pay here” auto loans. The CFPB says these dealer loans generally don’t help, and dealers often report only negative information, such as late payments.

Habits that matter once you start

• Pay on time. The CFPB calls this a critical step. Automatic payments or reminders can help.
• Stay well below your limit. The CFPB says scoring models look at how close you are to being maxed out, and that experts advise using no more than 30 percent of your total limit. Store cards tend to have low limits, so this matters. See credit utilization for more.
• Don’t open too much at once. The CFPB notes that scores may decline if you apply for and open too many accounts in a short time.
• Check your reports. The CFPB calls knowing what’s in your credit report the first step. You can request free reports from each nationwide bureau at AnnualCreditReport.com.

The short version

• Secured cards, credit-builder loans and store cards can help you start a history.
• Ask any lender whether it reports to the credit reporting companies.
• Compare fees. The FTC says secured cards often cost more than unsecured cards.
• Debit cards, prepaid cards and payday loans generally don’t build credit.
• Pay on time and keep balances low compared with your limits.

Sources

• CFPB: What are some ways to start or rebuild a good credit history?
• CFPB: Building credit from scratch
• FTC: Comparing Credit, Charge, Secured Credit, Debit, or Prepaid Cards
• CFPB: How do I get and keep a good credit score?

General information, not legal or financial advice. Laws and government guidance change, so check the sources above for the latest.