Getting out of the credit catch-22

Say you’re a responsible young adult heading out on your own for the first time. You’ve been careful to purchase only what you can afford, and you’re ready to move into your own apartment. Or purchase your own car. Great. Now, just fill out this paperwork showing us your credit history, and we’ll be happy to get started.        

Um, what?

That’s right. It’s a Catch-22. No credit means no credit history, which means no credit.

Building credit is something that takes a while and is best done with intention. “Getting a first credit card is usually not too difficult, but after that a good credit history is built through responsible borrowing and paying bills on time each month,” says Ethan Nelson, Oregon Community Credit Union’s Vice President of Lending. “This can be a challenge with the ups and downs of life and regular offers to open more credit accounts.”           

Nelson recommends starting out small and applying for a credit card with a low limit. Credit cards are a great way to start your credit history since they are generally easy to get with proof of income. Plus, they are convenient, especially for online and travel transactions. You can use your new card to rent cars and book hotels without losing access to available funds in your checking account. For an added bonus, look for a credit card that offers some kind of reward, such as airline miles or cash back.           

As long as you pay your balance every month, a credit card will allow you to build credit without paying interest. Most other loans have interest built-in, so you’d be essentially paying someone to build your history.

If it’s your first time applying for a credit card, it may seem a little overwhelming. What’s to keep you from going on a spending spree with all that credit? Just remember this: You’re getting this credit card to establish good credit, which is based on a history of responsible spending and bill paying. You’re a responsible young person, so you’ve got this. Nelson advises not opening too many accounts, for starters. It can be tempting to open a new card in exchange for 10 percent off your purchase, but you should stop and think if that 10 percent is worth the long-term temptation of having an open credit line. “Credit cards are a great tool and in many situations more convenient than cash or debit cards,” says Nelson. “So I recommend having at least one. The key is being honest with yourself about your financial habits.”           

If you’re reluctant to carry a credit card, there are other ways to build credit. Although not as convenient, you can take out a small personal line of credit or apply for another type of loan, like an auto loan, and have a parent or other co-signer help you obtain the loan. You can also build some credit by being an authorized signer on someone else’s credit card.          

Once you have a credit card or small loan, it’s important to practice good habits. Be sure to make payments on time, and keep the balance you carry below 30 percent of your credit limit. Information on how you use your credit will contribute to your credit score, sometimes referred to as a FICO score. Essentially, a credit score summarizes the risk that a lender takes by lending money to an applicant. When you are ready to take out more credit, for instance, to purchase a car or a home, the lender will look at your FICO score. Higher scores signal lower risks to the lender, so you definitely want to take good care of your credit score. Your score is determined by data from five categories: payment history, the length of credit, amounts owed, credit mix and new credit.           

Also, check your report from each credit monitoring agency every year on AnnualCreditReport.com and report any errors immediately to avoid a bigger problem. If a late payment or another item in your credit file is incorrect, you have a legal right to have it corrected and should do so.             

If you make a true mistake and pay a bill late, then time is the best remedy. There is no magic way to remove a true late payment from your credit report. Credit reports typically report on history that is seven to ten years old. As you continue to pay your bills on time, the weight of that late payment on your credit score will decrease because you will have shown a pattern of recent on-time payments.

The key to building and maintaining good credit is a lot like sticking with a healthy diet and trying to get regular exercise. It takes a bit of discipline and commitment, but the rewards will be with you for a long time into the future.