6 Effective Ways to Build Credit from Scratch

Building good credit is essential to your long-term financial health. But building your credit health from scratch can be a bit of a Catch-22 situation since you need to have a credit card or a loan in order to build a credit history, but it’s hard to get an approval on a new card or loan without an established credit history.

While you can’t get an excellent credit score overnight, you can work on systematically building your credit and the process might take 1-2 years, depending on your credit and payment history.

When you need to apply for a credit card account or a loan, the credit card company or lender will check your credit report and credit score to get an understanding of how you've managed credit in the past.

If you have a long history of effectively managing credit and making your EMI payments on time, you're likely to have a good credit score and will be more likely to be preferred by the lender or financial institution with favourable terms and rates. If you've never used a credit or have negative remarks on your credit report, like missed payments, it’s less likely that the financial institution will grant you a loan or credit card. If you do end up getting the loan or credit card, this might come at very high-interest rates and fee.

Read on to learn about ways to build credit from scratch so you can access the best offers on credit cards, home loans, automobile loans and other financial products.

How to Build Credit Without a Credit History

Let’s learn more about how to establish credit for the first time.

1. Get a Credit Card

Credit cards can be one of the fastest ways to build your credit from scratch because of how often your credit information is reported to credit bureaus. Many credit card issuers report information about your credit card balance and payments each month. So if you make a purchase or two each month and then pay them off, that will be reflected in your credit history. Ensure to use your credit card only for necessary purchases and make it a habit to pay it off the next month. That way, you have enough credit transactions to build your credit portfolio and your credit score isn’t affected.

2. Make Payments Regularly

If you want to establish a solid payment history, make a few smaller purchases that you can easily pay on time. By not carrying a balance, you also avoid paying interest on your purchases. But if you must carry a balance, making at least the minimum payment on time is necessary. To avoid missing payments, set up alerts for when your bills are due. Better yet, set up automatic payments if you can do so. That way, you’ll automatically make your payments each month. Just make sure you keep your account information up to date.

3. Practice Good Credit Habits

Unfortunately, it’s much harder to build good credit than it is to destroy it. While it takes a couple of years just to accrue enough information in your file to be issued a credit score, it can take much less time to reduce it.

When you miss a payment or default on a loan, it can take your credit score down a notch. You can also hurt your credit score if you use too much of your available credit. It’s best to keep your credit utilization below 30% to preserve your credit.

Making a lot of credit inquiries can also bring your score down, so make sure to take advantage of soft credit checks or have a minimum window of 30 days before you make your next inquiry.

How to Build Credit With a Negative Credit History

In a situation where you are either in a financial trap due to a low credit score, these tips can help you improve your credit health overall.

1. Monitor Your Credit Regularly

Monitoring your credit on a regular basis will help you understand the factors that influence your score, and track how your credit building efforts are paying off. There are several online tools that can help you keep an eye on your credit profile and understand what goes into it. Go through the report thoroughly, make a note of all the highlighted issues that might be reducing your score and make a systematic repayment plan.

2. Never Miss a Payment

Your payment history is the number 1 factor that drives your credit score because it shows lenders that you can reliably pay your bills on time. Even one or two late payments can drag your score down significantly. What does this mean for you? Pay on time, every time, no matter what.

3. Keep Your Credit Utilization Ratio in Check

This is the per cent of your credit card limit that you’re using, and it’s the second biggest factor that influences your credit score. A high utilization ratio suggests to lenders that you might be overspending and you would have a hard time handling additional credit. What does this mean for you? Don’t get anywhere close to maxing out your credit cards. A credit monitoring tool or balance alerts can help you stay on top of how much you are spending on your cards.

Although it takes some time to learn how to build credit from scratch, it’s not impossible. Once you build that credit, it’s important to stay on top of things so you don’t end up destroying everything you’ve worked so hard to build.

Building your credit from scratch is not simple and cannot be revered or built overnight. But those who are patient, and handle their credit responsibly, will reap the rewards of their hard work. The key is to take it slow, make a plan, make on-time payments, keep your credit utilization ratio in check, monitor your credit report and practise good credit habits. Good luck!