Your credit score is one of your most valuable assets. And that begins with getting your first credit card.
What’s absolutely critical about them is that they start the clock on your credit history, and you will need a credit history to do many important things in the future, including buying or leasing a car, and renting or buying a home. Until you have a good seven years of credit history under your belt, you will still be operating, financially, like a minor.
Factors used to calculate a credit score
Payment history: 35% of your FICO score
Amounts owed: 30% of your credit score
Length of credit history: 15% of your credit score
Credit mix (number of cards, loans etc.): 10% of your credit score
Newly obtained credit: 10% of your FICO score
That’s a lot to keep track of. But let’s make it easier. Here are some tips for starting and maintaining a healthy credit history, while enjoying the benefits of credit cards.
Get one as soon as you can, and use it
The credit cards available to college graduates and other young people are rarely the ones you see advertised during the Super Bowl or in airline magazines. They come with pretty tight restrictions. There are two main ways to open your first line of credit with a credit card; becoming an authorized user on your parent’s credit card or opening your own credit card.
Becoming an “authorized user” on a parent’s credit card
There is also the option of becoming an authorized user on one or both of your parents’ existing credit cards. This is a dense topic, with many angles, but the key benefit is that it’s a good way to experience the responsibility of having a credit card while your parents retain control of spending limits. Further, depending on the type of card, you may benefit from your parents’ credit score and payment history.
The downside is that, if your parents have negative credit history or missed payments, that could impact your own credit score. Additionally, some credit card companies make it difficult for the parents to set credit limits specifically for your card; you will have access to their full credit line, and this could be a cause for concern. Finally, fees may be associated with being an authorized user.
Here is an overview of minimum age requirements for authorized users for major credit card companies:
- American Express: 13 years or older
- Bank of America: none
- Barclays: 13 years or older
- Capital One: none
- Chase: none
- Discover: 15 years or older
- US Bank: 13 years or older
- Wells Fargo: 18 years or older
Establishing your own credit card:
Benefits of starter cards
Deciding on your first credit card is not an easy decision, but should be based on a myriad of factors that center around your financial situation as an individual. This is different from an authorized-user card where your parents may be picking up your statement balance. This is a card that will be paid for by you, making your decisions that much more consequential.
A great starter card will be one that does not have any type of membership fees as these can be costly and often forgotten about until a lump sum payment becomes due for the fee. We always highly recommend paying your balance off in full, but in the event you are unable to, find a card that has a low interest rate ceiling. The lower the interest rate, the less you owe on unpaid debt.
There are also security deposit cards. These cards require initial deposits of cash that are refundable based upon hitting certain milestones. As you hit certain credit score milestones on your credit journey, you will receive your deposit back when you graduate to an unsecured credit card. Keep in mind that your available credit line is often limited to the value of your security deposit.
How to go about applying
The simplest way to apply is to pick a starter, no-fee credit card, and follow the prompts through their application process. The institution will guide you through each step of registration, and they will “run” your credit, checking your score. This will temporarily dip your score in the short-term, but is necessary for opening the card. As long as you have picked a starter card, the institution should not reject someone without credit history. Once you have been approved, the institution will mail you the card.
Regardless of the card you choose, you will almost certainly start with a small credit limit of a few hundred dollars. While you don’t want to “max” that out (a rule of thumb is to stay under 30%), you should make sure you use the card at least every couple of months, even for something small such as a subway fare or pizza.
Always, always, pay your full balance
Once you get a credit card, pay it off in full every month. This is essential. Do not think of it as a loan. If you miss a payment, you will get a black mark against your credit score that will follow you for a very long time. Don’t risk it. Manage your credit card as a debit card, only spending what you know you will be able to pay off at the end of the period. You’re not just building a credit history—you want to build a good credit history. That’s the whole point. Because the interest rates on credit cards can top 25%, paying only the minimum, or less than the full balance, you can put yourself in a position where the debt escalates quickly. Especially when you are new to the workforce, you may end up with an unpredictable income—for instance if you’re working in the “gig” economy, or in a job where shifts fluctuate.
While using it like a debit card, it will provide other benefits, including cashback, rewards, and the strengthening of your credit score. Additionally, credit cards offer better fraud and unauthorized purchase protections over debit cards.
Remember, there is no benefit to your credit score from carrying a balance on your credit card. You do not earn “bonus points” for carrying a balance, but you will pay the credit card company 25% or more interest on outstanding balances.
Increasing your credit limit
Most credit card companies will automatically increase your credit limit after you have demonstrated full and timely payments. You can also ask the card company for a higher limit if your income has changed—for example when you get a new job.
However, be warned: Higher limits aren’t always better, especially if you may be tempted into thinking that having a running balance that’s much lower than the limit is just fine. You should continue to avoid charging more than you are able to pay each month. Higher limits may tempt you to buy things you do not need, or to spend more than you can afford to pay at the end of the month. If this becomes a problem, you may want to switch back to a debit card. Even there, a debit card can actually hurt your credit score if you go into overdraft and carry a negative balance at your bank, as that will show up as a debt on your credit report.
Good place to keep up to date on credit card offers:
NerdWallet (general) and BoardingArea.com (travel).
Lastly, if you do find yourself in a hole with credit card debt, in order to minimize the damage, find the money from somewhere to pay it off—from family or a bank loan. Unpaid credit card balances will ruin your credit score, plus you’ll be paying 25% on the debt, which is more than the rate on other loans.
At Bridgewater, we are always available to help you on your first steps into the complex world of credit and debt. Don’t hesitate to contact us if you’d like more information or advice.