How to build a credit score
Unfortunately, "no history" can be worse than bad history.
Here are some notes from a conversation with a Chase loan officer. It's intended to be a no-fluff quick overview from the perspective of someone entering the US credit system with "no history."
It's a game
Overall the goal is to collect points by demonstrating the ongoing ability to consistently pay off a number of loans on time over an extended period. That's how you win the credit history game.
- You need a line of credit to build a credit history. While this might make no sense if you're sitting on a pile of capital, that's just how the system works. The good news is it doesn't have to cost you any money, and you can keep the time cost pretty minimal.
- Obtain two or three lines of credit. A couple of ways:
- Get a credit card. But... being approved for a credit card usually requires a credit score but you have no credit history... So you'll need to find a credit card company that will provide you one despite that. Fortunately, Capital One's Cash Rewards for Newcomers is just the ticket. Try to find one without an annual fee. I started out on a Capital One card and it worked for me. Your bank ought to be able to help too (Chase did).
- Take out an instalment loan, e.g. to buy a washing machine, and pay it back over a year. Again, you might not need it but you gotta work in the system to work the system.
- Maintain your balance under 10% of the credit card's limit (30% max). For example if your starter card is $250 limit (not unusual) keep it under $25. The less of the limit you use (above nothing) the faster the credit score increases. The reason for this is that when a credit check is made, and this can happen any time, the outstanding credit is factored in. So if it looks like you're red-lining your credit it'll seem like you don't have your finances under control.
- Absolutely critical: Make your payments on time. Being late on payments has the most strongly negative effect on credit scores. Your bank will help you set up automatic monthly payments.
- Pay the credit card balance off each month (on time!) so you're not incurring interest payments.
- Keep using it. Credit score is only developed during the paying-off process. One good idea I've read is to have a recurring monthly payment on the account (<10% of the limit as above) like a Netflix subscription and automatically pay the credit card off each month. Congratulations! You've made a perpetual credit score machine.
- Depending on your credit history elsewhere in the world, your home bank may be able to help. Apparently your international credit history can't be exported to the US, unfortunately. (I'll write some more on this when I have investigated what my UK bank HSBC has to say.)
- The size of the loan doesn't affect how fast the credit history is built.
- Building credit takes 6-12 months. Enjoy your rental accommodation!
- After you've built your platinum-plated credit score, you'll start to see credit card offers deluging you in the post. This is a sign you've done it right. Ironically, these offers'll be coming at the time when you need them least (assuming you're not now on the wrong side of Big Tony).
- Applying for a mortgage, your lender will be looking at your Debt-to-Income ratio which is how much you're paying in interest versus your income: it should be <8% of monthly income being used for minimum monthly payments (i.e. interest). Really though, pay it all off at the end of the month.
A credit card is a means to build credit history not as a way of being able to spend more than you have (tempting though that might be).
If you get a late fee or some other random charge, call up your credit card company and, while being very charming and polite, ask them to waive it. In my experience they've always done it.
Have fun! ;-)
Nine months after entering the credit system and following the above method I was pre-qualified for a loan through Chase. A couple of months later I closed on my first house.