If you’re just getting started on your financial journey, one of the most important things you will need to know is how to establish new credit without credit history. This is also called ‘building credit’.
However, it helps to understand what credit is, why you need it, and what you can do with it.
What is Credit?
Credit, in this case, is a catch-all term for your ability to borrow and pay back what you owe. There are various ways that credit shows. The most recognizable way credit appears is through the credit score. A credit score is a number between 300 and 850 that represents how likely you are to pay back a given loan (creditworthy). The higher the number, the more ‘creditworthy’ you are.
Your credit history is a recent record of the credit arrangements you have gotten into. Those credit arrangements consist of borrowing money, entering service contracts, and opening lines of credit.
What you will need to build as a new credit holder is a credit history. Your credit score consists of different elements of your credit history. Depending on what your credit history looks like, your credit score will be either high or low.
Why Do I Need To Establish New Credit?
If you are wondering, how to establish new credit without a credit history, this is where it gets good. You need to build a credit history in order to borrow money and enter into service contracts that involve paying money on a regular basis. Having a credit history allows you to open new credit cards (or increase your limit on existing ones). It allows you to take out installment loans for things like a car or college education. It allows you to take out a mortgage to purchase a home.
The better your credit, the more money you will have access to for these things.
Having available credit makes it easier to weather the financial storms that happen in life. If your car breaks down, you can borrow money to fix it (or get a loan for a new car). Have a medical emergency? you may be able to borrow the money to pay for it. If you need repairs on your house but don’t have the cash to afford them, you can use a line of credit to pay for these repairs.
Simply put, having better credit makes your financial life easier.
How Do I Build Credit With No Credit History?
Building credit with no credit history does not need to be difficult. In fact, that are a number of things that will help get you started on a new credit history.
Secured Credit Cards
Secured credit cards are the most well-known way to establish new credit. To open a secured credit card, you will need a bank account and some cash for collateral (as little as $250). Once you have a bank account, you can request a secured credit card.
The bank will then ask for cash as collateral against your credit card. Collateral is not a payment, but is instead money held as a guarantee that you will pay your debts. If you are unable to pay your secured credit card bill, the idea is that they can close the account and keep your money.
The more money you can put against a secured credit card, the better.
Once you have a secured credit card, it then operates like any other credit card. You can charge transactions on it anywhere that credit card is taken. Once the period ends, you then pay the credit card bill. We recommend to pay the balance in full every month. This way, you can build a positive credit history.
Credit Builder Loans
A credit builder loan is a low dollar amount installment loan for high-risk borrowers. They often do not exceed $1,000 and the borrowed funds are held in a savings account until all payments have been made. The borrowed funds cannot be used at all before the last payment.
They can then finance important purchases that may be too expensive for the borrower to pay cash for. It’s a method of forced savings.
The money can then buy a new computer, a phone, car parts, or a low cost method of transportation like a bicycle.
It’s absolutely paramount to make the payments on time! Otherwise, your credit builder loan will simply hurt you.
Another tip on How To Establish New Credit Without a Credit History. Overdraft protection is a misnomer, as it doesn’t protect you from overdrawing your account. What it does is offer you additional funds in the case that you do overdraw. If you can, don’t ever overdraw, as the overdraft fees are often very high. Not only that, but you have to pay interest on funds overdrawn!
With these negatives, though, what’s the benefit? The benefit is access to more available credit. The more credit you have access to (but don’t use), the better your credit score gets over time.
By opening an overdraft protection account, you make it easy to build new credit completely free! Just don’t overdraw your account, and you will be fine.
Looking for more information on building credit? Here is a post on rebuilding credit after bankruptcy