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8 Steps to Build Credit from Scratch

Sandra MacGregor

Dec 22, 2021 10 min read

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Building credity history from scratch.
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    There’s no getting around the fact that you’ll need to build credit at some point in order to secure a strong financial future.

    While building credit from scratch may seem daunting, it doesn’t have to be. Though it’s true that credit scores and credit reports are important factors when it comes to your financial health, establishing credit is possible with some hard work and careful money management. To help you begin, we’ve set out 8 steps to build credit from scratch. 

    Understand the basics of credit

    An essential part of building credit is to first ensure you have an in-depth understanding of what credit is and how things like credit scores and credit reports work.

    A credit score is a number that represents your credit worthiness, which essentially means how responsible you are with money and how likely you are to pay back debts. In Canada, credit scores range from 300 to 900. Within that range credit scores fall into five categories, ranging from the lowest, which is a poor credit score, to the highest number, which is an excellent credit score. The higher your credit score, the better potential creditors will rate your creditworthiness, and the more financial products you’ll be approved for at the most favourable rates.

    In Canada, credit scores and credit reports are managed by two credit bureaus, Equifax and TransUnion. These credit bureaus collect information from your creditors (like loan and credit card companies) and then calculate your credit score using specialized algorithms. 

    Credit scores are made up of five main factors, with each one weighted a different amount towards your overall credit score. The five factors are:

    • Payment history (35%)

    • Credit utilization (30%)

    • Credit history (15%)

    • Credit mix (10%)

    • Credit inquiries/credit checks (10%)

    Clearly, payment history and credit utilization are the most important factors affecting your credit score so pay special attention to making payments on time and managing your use of credit responsibly.

    Credit bureaus also create more detailed documents called credit reports that essentially contain your entire credit history. They include an incredible amount of information about your finances both past and present, including how long you’ve had a loan or credit card, any late or missed payments, balances, credit limits, if you ever declared bankruptcy and more. Potential lenders will take a look at your credit reports for a variety of reasons, such as to see how much debt you’re carrying, whether you defaulted on any loans in the past and whether you make a habit of missing payments.

    Check your Credit Report

    As you can see, credit reports are a key factor potential lenders use to assess your creditworthiness as those reports give a very detailed look at how good you are at managing money. Once you do start to establish a credit report, you’ll want to make it a priority to monitor it carefully in order to catch any mistakes (like a payment you made on time being reported as late or an erroneous bankruptcy). It’s vital to scan your report carefully and fix errors quickly before they negatively affect your credit score.

    Get a Credit Card 

    Getting a credit card and using it responsibly is one of the quickest ways to build credit. There are three main kinds of credit cards that are the best for those just starting to build credit in Canada.

    Secured credit cards 

    A secured credit card is a very useful tool for people with no credit history and can be relatively easy to apply for no matter what your financial history. That’s because with a secured credit you “secure” your payment with a cash deposit and therefore there is no risk for the credit card provider if you default on payments. Unlike a traditional (aka unsecured) credit card, you can only get a secured credit card if you provide a deposit. If you fail to make a payment, the credit card provider can use your deposit for payment. Your deposit also acts as your credit limit, so if you deposit $500, you can only spend a max of $500. A secured card is a straightforward way to build payment history and establish credit.

    Student credit cards

    Because student credit cards are geared towards people attending postsecondary school, there’s no expectation that applicants will have a great credit score or have a long credit history, meaning student credit cards are easier to get. They often also tend to have lower credit limits, which makes it more likely that you’ll be able to pay off your balance each month and manage the card responsibly. Student cards usually have some specialized requirements, such as proof of postsecondary education. You may also need to show that you have some form of income and be a minimum age of 18. 

    Retailer’s store credit cards

    Store credit cards, which you may only be allowed to use at specified stores, can be easier to successfully apply for because they often feature high interest rates and lower credit limits.

    Apply for a credit builder loan

    Credit builder loans are rare in Canada but are sometimes offered by credit unions or alternative financial institutions. Though they may be hard to find, in theory they are a good option to build credit. This type of loan can be confusing because it’s not how a loan normally works. With a credit builder loan, a lender loans you an agreed upon amount of money but rather than give you the money outright, they’ll put the funds in an account like a savings account that earns interest. You then make payments on your loan even though you can’t access the funds until you have already paid off the loan. But here’s where the credit building comes in. While you make payments on the loan, your payments are reported to a credit bureau so you do in fact build up your credit history. Because you aren’t actually borrowing any money, there’s no risk to your lender, making a credit builder loan easy to get even with no credit history.

    Obtain Authorized User Status

    Unlike in many other countries like the U.S., in Canada you can’t usually establish credit or bump up your credit score as an authorized user on a credit card. That’s because most financial institutions only report a primary cardholder’s payments to a credit bureau. It may be worth asking your credit card issuer if they report authorized user activity to a credit bureau.

    Take out a loan with a co-signer 

    Getting a loan with a co-signer is another option that may help you establish credit. A co-signer is usually a trusted friend or family member who agrees to be legally responsible to pay back the loan in full if you default on payments. Be aware that asking someone to be a co-signer is a huge responsibility that could permanently affect their finances and credit score if you default and they have trouble paying off your debt. It could also ruin your relationship so don’t ask someone to be a co-signer unless you’re a hundred percent sure you can pay back the loan in full on your own. 

    Sign up for a cell phone plan

    If you’ve just moved to Canada or are just about to head to college, getting a cell phone plan can help you build credit in Canada. Cell phone companies report your monthly bill payments to credit bureaus, and that information is added to your credit file. Paying your cell phone bill on time each month can help build a solid payment history, which is the biggest factor that affects your credit score. 

    Make sure that you’re able to make your monthly payments on time. If you make payments on-time, this positive information will be added to your credit report and could help you improve your credit score. However, if you miss payments, this could be added as negative information to your credit report, which will ultimately hurt your score.

    Develop healthy credit habits

    Remember, you don’t just want to build credit, you want to build good credit. A big part of ensuring that you maintain a strong credit report and score is to nurture healthy credit habits that include things like regularly monitoring your credit report, always making payments on time and never borrowing more than you can pay back.

    Have patience

    There’s no way to get past the fact that it takes years to establish a strong credit score. Just keep doing the right things — like always making payments on time and carefully monitoring your credit report — and you’ll get there.

    Why Is My Credit Score Important?

    The importance of a healthy credit score can’t be underestimated. A good credit score will help you qualify for loans with the lowest interest rates, which will in turn make it more affordable for you to make big purchases like a car or home. Your credit score could make or break leasing a car or buying your first home.

    You’ll also be able to get lines of credit with great rates and successfully apply for the best credit cards. Having a good credit score can even make it easier to get a job or rent an apartment because many potential landlords and employers check a person’s credit report to gauge how trustworthy and responsible they are.

    How Long Does it Take to Get a Good Credit Score from Scratch?

    Unfortunately, no matter how dedicated you are to managing your credit responsibly, a credit score doesn’t get created overnight and you’ll need to be patient. Generally, when building credit history from scratch, it takes a minimum of six months before credit bureaus have enough information on your behaviour (like how good you are at making payments) to generate a score. Of course, bad financial habits will set your score on a negative trajectory, ensuring that your score takes two steps back with every step forward, so avoid things like late or missed payments and high credit utilization ratios.

    What Is The Fastest Way to Build Credit From Scratch?

    There is really no quick fix when it comes to building credit from scratch. It takes patience and diligence and you’ve got to be prepared to put in the time. That being said, responsible use of a credit card (meaning you pay off your balance in full each month and are never late with payments) is generally considered one of the fastest ways to develop credit from the ground up. Other factors that will help you establish credit more quickly is to maintain a low credit utilization ratio and have a good credit mix. Also, be sure that in your enthusiasm to build credit quickly you don’t apply for too many credit cards at once as that will negatively affect your score.

    What Are The Most Effective Ways to Maintain Good Credit?

    Here’s a brief overview of some of the most efficient methods for maintaining good credit:

    Pay your bills on time

    Payment history is the most important factor of your credit score. The more you avoid late or missed payments, the higher your score will rise.  

    Keep your old accounts open

    Haven’t used a credit card in years and thinking of cancelling it? Reconsider! A longer credit history is good for your credit score so it’s wise to keep old credit cards even if you don’t use them. Make sure to use them occasionally for small purchases so your issuer doesn’t cancel them. Credit card inactivity can cause your credit card to get cancelled; getting a credit card cancelled can hurt your credit score quickly, as it causes your credit utilization rate to increase overnight. 

    Keep credit utilization under 30%

    Credit utilization, which is the amount of credit you’re using out of the total available to you, determines 30% of your score. The lower your credit utilization, the better your score so try not to use more than 30% of your available credit at any one time.  

    Diversify your credit

    Ensure you have a mix of different types of credit. Potential lenders like to see that you can manage a variety of credit products like revolving credit (like a credit card) and installment loans. Having two credit accounts open is a good credit mix to start with. This could be a credit card and a cell phone plan, or a credit card and a car loan. Just make sure you’re able to manage your payments!

    Increase your credit limit

    As long as you are certain that a larger limit won’t encourage more spending, it’s smart to increase your credit limit on credit cards. That’s because if you keep spending the same amount but increase your limit, you will in turn decrease your credit utilization ratio.

    Sandra MacGregor
    Sandra MacGregor
    Personal Finance Writer
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    Sandra MacGregor is a professional writer who specializes in topics such as finance, travel, health, and lifestyle. Her work has been featured in the Toronto Star, the Montreal Gazette, and the New York Times. She is a regular contributor to the Borrowell blog.

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