You might have been wondering why some borrowers get better loan terms and lower interest rates than others. This is because they have built their credit score way better than other borrowers.
If you’re someone who doesn’t have credit yet, you might ask yourself, how can you start building credit when lenders look for a credit history?
But don't fret when you face this dilemma. There are steps that you can follow so you can start building your credit score. And there are various loans that you can choose from to build your credit from scratch.
Get A Co-Signer
For students and young professionals who're just starting to build their credit score, signing up with a close friend, family, or a relative in taking out a loan is the best option. This way, the trusted co-signer will take over the responsibility of paying up the loan when you default on it.
Banks and other lending institutions approve applications from borrowers with no credit history if they have someone who has a high credit-worthiness to be their co-signer. The co-signer credit history is a factor for the loan to be approved.
However, many relationships are affected because of the irresponsible handling of loans with a relative or a family as co-signer. Always proceed with caution. Also, make sure that you commit to paying the loan amount to avoid personal conflicts.
Pro-tip: Many borrowers who don't have a credit history opt to take out a loan with no credit check because they can readily apply for one and get the money right away. However, taking out a loan with no credit check is risky. Furthermore, this type of loan doesn't help you establish a credit history. No credit check loans don't send credit reports to the credit bureaus, and your repayments are not recorded. Hence, it won't reflect in your credit history.
Credit-Builder Loan
One of the best loan options to start building credit is to take out a credit-builder loan. With this type of loan, you don't have to sign up and get a card, just like signing up for a credit card loan. (We will explain about starter credit cards in this article, too.)
The main objective of getting a credit-builder loan is for you to establish a good credit history. Hence, you're not required to present good credit for approval when you sign up with a credit-builder loan. Even more so, you don't need to present a credit history to avail of this loan. This can be helpful if you don't have one yet.
Lenders only require your commitment to pay the loan amount and proof that you have enough income to make the monthly repayments.
How Do Credit-Builder Loan Works?
A credit-builder loan is simple, but it’s not the typical loan that you're expecting. With credit-builder loans, once you're approved for the loan, the loan amount you borrow is deposited in a bank account. You cannot take out the loan amount until you're not done repaying it. Therefore, you have to fully repay the loan first before you can use the money.
This procedure is to help any borrowers build savings and start a good credit history. Every time you make a payment, the lender will send your payment history to one of the major credit bureaus. Thus, make sure that you manage to pay on-time. FICO and VantageScore, the two popular credit scoring models, pay the most attention to your payment history in your credit reports.
Pro-tip: A credit-builder loan is also helpful for borrowers who currently have a bad credit score. They can slowly build up their credit history, and at the same time, practice managing their monthly repayments.
Starter Credit Card
Another loan option that works in building a credit history is to take out a starter credit card, commonly called a secured credit card. This is different from an unsecured credit card since the starter credit card is backed by cash you deposited. The cash deposit will be your credit limit. You can use the card to pay for groceries, food, and other purchases.
Like how a credit card works, you need to pay for the incurred interest if you miss the scheduled repayment. A secured credit card is not designed for long-term use, as this is just for you to build a credit history and prepare you for an unsecured credit card.
Pro-tip: When you decide to close or end your secured credit card, you're going to take the deposit amount back. This is in the case if you have fully repaid your balance.
Takeaway
Starting to build a credit history is not an easy task. However, they are simple steps that you can follow so you can start making a wise and smart move. The only key to making sure that you're going to build a good credit history is your ability to pay on time and be accountable for your finances. They are no shortcuts if you want to have a good credit score, as the process takes time, and you should be responsible for managing your finances.
