6 Common Myths about Building Credit

Believing common urban credit myths can make it harder to achieve good credit.

The danger of buying into a credit myth is that it usually makes it tougher to achieve the credit score you want. In some cases, you may take an action that you think is good for building credit, such as closing an old account. You only realize the mistake once you see that it negatively influenced your score.

Building good credit essential for supporting a stable financial outlook. It’s important to take the right steps to offset past mistakes and reach a good score as quickly as possible. With that in mind, here’s a step-by-step quickstart guide to building good credit. If you need more information, please refer to Consolidated Credit’s full Guide to Building Good Credit.

Step 1: Review your credit report

Your journey to better credit should start with a thorough review of your credit report. You actually have three reports, since each credit bureau maintains their own proprietary version. By law, you can receive each of those reports 100% free of charge once every twelve months. To get your free reports with no strings attached, go to annualcreditreport.com – that’s the free government-mandated report download website.

Once you receive your reports, you should review them thoroughly. You have two goals to accomplish during this review:

  1. Identify negative items that hurt your credit so you can confirm how long these items will affect your score.
  2. Check to make sure all information contained in your report is correct, since your report may contain errors that can decrease your score.

Remember, there’s no action that you can take that decreases your score forever. While positive or neutral information can remain in your report indefinitely, almost all negative information can only be reported for a certain time. Most penalties, including late payments in your credit history, expire after seven years.

Step 2: Dispute credit report errors to have them removed

If you find something incorrect in your reports, you have the right to dispute that information to have it removed. By law, a credit bureau is required to remove information from your credit report if it cannot be verified. So, you can report errors to the bureau that issued each report. They will check with the creditor and if they can’t show that the information listed is correct, it gets removed.

This is an essential process, since roughly one in five credit reports contains a score-damaging error. Mistakes can range from duplicate accounts to incorrect payment history to outdated account statuses. For instance, if you’ve experienced financial hardship, your report may show accounts as past-due even though you brought them current.

You can learn more about disputing mistakes in Consolidated Credit’s Credit Repair Guide.

Step 3: Take action to build good credit

Once you have taken steps to remove any incorrect information from your credit profile, there may still be correct negative items that contribute to a lower credit score. As mentioned above, those penalties will eventually expire and should be removed. However, even before that occurs you can offset past negative information effectively with positive credit actions now.

If you can’t get approved for a traditional unsecured credit card, look into secured credit cards. These allow you to open a credit line even with a bad credit score. You can put down a cash deposit to receive a credit line of at least equal value.  Then you can use the card to make purchases throughout the month. You should only charge what you can pay off in full at the end of each billing cycle. This helps minimize interest charges and allows you to build a positive credit history.

Step 4: Avoid actions that damage your score

As you work to build credit, you want to make sure you don’t take an action that can set you back. This includes everything from closing an old account to paying your secured credit card more than 30 days late. Keep old accounts open and active, when possible, to maintain the length of your credit history.

Pay all your credit card bills on time and make sure other bills get paid, too. If utilities or a medical bill go unpaid, they can turn into collection accounts. Once a collection account appears on your credit, it remains as a negative item for seven years. That means even if you pay off the account, it can still haunt you. You need to stay ahead of your debts and other obligations to avoid potential credit damage.

A final note on credit utilization

The second biggest factor used to calculate your credit score is your credit utilization ratio. This is the amount of credit you’re using relative to the total credit line you have available. For example, if you have a $1,000 credit line and you carry a balance of $500, your credit utilization ratio would be 50 percent.

When it comes to credit utilization, the closer you are to zero, the better it is for your score. Experts recommend that you keep your credit utilization ratio below 30 percent. But ideally, you want to aim to always maintain a zero balance. This is accomplished by actively using credit cards that you pay off in-full at the end of each billing cycle.

What’s mentioned in the video about opening more credit lines is a myth where you attempt to “game” the credit system. Instead of paying off debt to improve your credit utilization ratio, you simply open another credit line. For instance, let’s say in the example above if you open a new credit line that also has a $1,000. Your credit utilization ratio drops to 25 percent.

Reasons why gaming the system doesn’t work

There are two main reasons that this kind of work around doesn’t work in the long run.

  1. If you open to many new credit lines at once, it hurts another factor of your credit score related to credit inquiries.
  2. In most cases the relief is only temporary. Eventually you end up with more debt while your score is right back in the same position.

The number of credit checks requested in a 6-month to 1-year period counts as a factor in your credit score. That means if you abuse the system trying to game credit utilization, you hurt your score for too many credit checks.

More to the point, boosting a credit score this way usually ends up making your situation worse. If you just opened the new credit line and didn’t use it or used it responsibly as described above, then there shouldn’t be an issue. However, more often than not, people using this trick use credit to cover budget gaps and everyday expenses. That means the balance is run up quickly and not paid off. Any credit score boost is quickly diminished. Your score goes back down and now you have more debt to repay if you want to legitimately fix your ratio.