Thanks to record-high inflation and rising interest rates, it’s becoming tougher to keep debt at reasonable levels and maintain good credit. In fact, total consumer debt reached a record $17 trillion in the first quarter of this year.
Even so, the average FICO credit score in the U.S. was 714 as of 2022, according to data from Experian. That’s considered “good” based on FICO’s credit score ranges.
But if your score is lower, don’t stress. There are a few steps you can take to improve your credit score—or even build one from scratch. Here’s how.
Understanding your credit score and how it works
Your credit score is a numerical representation of your history with borrowing and repaying money. It’s a three-digit number based on the information contained in your credit reports, which are maintained by the three main credit bureaus: Equifax, Experian, and TransUnion.
The most common scoring models—FICO and VantageScore—both range from 300 to 850. Experian’s senior director of consumer education and advocacy, Rod Griffin, compares a credit score to a grade received in school. “Your credit score represents the quality of your credit history, like a grade represents the quality of the work you did,” he explains. “Like a grade on a paper, it helps lenders predict the likelihood that you will repay a loan as agreed.”
The higher your credit score, the more trustworthy you are in the eyes of lenders. A good score will give you higher approval odds when you apply for a loan or credit card, as well as the best interest rates and terms. On the other hand, a low credit score makes it harder to get approved for financing at affordable rates. It can also prevent you from getting approved for an apartment, utility account, cell phone plan, and more.
How your credit score is calculated
Credit scores are based on a number of factors, and the exact algorithms used by scoring agencies are largely proprietary. Still, we know that when it comes to FICO scores (the scoring model used most often by lenders) there are five general categories of metrics, according to John Ulzheimer, president of The Ulzheimer Group and founder of CreditExpertWitness.com.
In general, FICO scores are based on the following:
- Payment history (35%): This examines whether you’re paying your bills on time, and is the most heavily weighted factor.
- Amounts owed (30%): This is how much debt you owe in relation to the total amount of credit extended to you.
- Credit history (15%): The length of time you’ve been using credit, as well as the average age of your accounts, make up your credit history.
- Credit mix (10%): This considers the types of credit you have, including revolving credit (such as a credit card or home equity line of credit) and installment loans (such as an auto loan, student loan, mortgage, etc.)
- New credit (10%): Finally, the amount of new applications and credit accounts you have on your credit reports will affect your score.
How to build your credit score
To build your credit score, you first need to establish your credit reports.
Credit reports are created using data such as your personal information (name, address, Social Security number, employment history, and date of birth), your past and existing credit accounts, known as “tradelines” (credit cards, mortgages, car loans, and student loans), and public records (court rulings, owed property taxes, and bankruptcy filings). This information is collected independently by the three major credit bureaus, which then compile it into your credit reports. Note that because each bureau collects and reports data separately, there could be discrepancies between your reports.
According to Experian, you’ll need at least three to six months of credit activity on your reports before a credit score can be established. If you’re not sure what you can do to create that activity, here are a few ideas.
1. Apply for a credit card
Griffin says it’s good to have one or two credit cards to build your credit score, as revolving credit accounts tend to be weighted more heavily by credit scoring agencies.
“Unlike an installment loan—like a car loan—where you’re told you’re going to pay this amount on this day every month until it’s paid off, with a credit card, you decide how much you’re going to charge, and you decide how much you’re going to repay each month,” Griffin says. That “free will,” he adds, gives lenders more insight into how you will make borrowing and repayment decisions.
It is important to note that you often need good credit to get approved for a credit card. So if you don’t have much of a credit history yet, or you can’t get approved, you can opt for a secured card instead. These cards are designed for people with no credit or bad credit. You pay a small deposit upfront, which serves as your line of credit and collateral if you fail to make your monthly payments. You charge expenses to the card and pay off the balance, just as you would with a traditional credit card. That payment activity is then reported to the credit bureaus. After several months of using your card responsibly, you may even get upgraded to a regular credit card.
2. Get added as an authorized user
If you don’t want to risk racking up debt with a credit card, you can consider being added as an authorized user on someone else’s card instead. This allows you to benefit from the primary cardholder’s credit card activity (assuming they keep their balance low and make payments on time). As an authorized user, you don’t have to actually use the card to benefit. Plus, you have no liability when it comes to making payments.
3. Open a credit-builder loan
Credit-builder loans are also designed for borrowers with low or non-existent credit scores. Often found at credit unions, these “loans” allow you to borrow a small amount (usually, around $1,000) and then make payments toward the balance. However, instead of receiving the loan proceeds to spend as you like, they’re placed in a savings account and held there until the loan is paid off. Once the loan is repaid, you receive your money back, minus any fees. As long as you make your payments according to the agreement, that positive credit activity is reported to the credit bureaus.
How to improve your credit score
Maybe you already have a credit score, but it’s not as high as you’d like. Ulzheimer says there are two different approaches to improving your credit score, and both stem from different circumstances.
If you’re looking to improve your credit score from a lower range, that means you did something to bring it down that needs to be fixed. “The path to a higher score depends on why your score is lower in the first place,” Ulzheimer says. “We don’t all end up with lower scores for the same reason, and therefore, we don’t all do the same things in order to rehab our scores.”
If your credit score is lower because you’ve missed payments, for example, you’ll need to consistently pay your bills on time and in full to improve your score. If your credit score is lower because you maxed out a credit card, paying down that balance will help your score grow.
If you’re simply looking to improve or maintain a good credit score, it’s a matter of continuing to do what you’ve been doing. “If you’re doing all the right things—keeping those balances low, paying in full—it gets really boring because all you have to do is the same thing over and over again,” Griffin says.
Whether you want to build up a bad score to good, or keep growing the great score you have, there are a few steps you can take to do it.
1. Check your credit reports for errors
Regularly checking your credit reports is key to making sure that your personal and account information are correct, as errors can bring down your score. You can request a free copy of your credit report from all three major credit bureaus at annualcreditreport.com.
If you do find an inaccuracy, you can dispute the error with the bureau that’s reporting it. Common errors to watch out for include having your name misspelled, an incorrect account status (like being reported as late or delinquent when it’s really in good standing), or the wrong outstanding balance.
2. Pay your bills on time
As the most heavily weighted credit score factor, paying your bills on time is critical to building a good credit score. According to data from FICO, missing just one payment can cause your score to drop as much as 180 points, depending on how late the payment is and the overall health of your credit. If you have a severely delinquent account that’s been sent to collections, bringing that account current can drastically improve your score as well.
3. Keep your credit utilization low
The amount of credit you use in comparison to the total amount of credit extended to you is known as your credit utilization ratio. Since “amounts owed” accounts for 30% of your score, keeping your utilization low will go a long way toward benefiting your credit score. That’s especially true for revolving credit accounts, such as credit cards.
For example, say you have a $5,000 credit limit on your credit card and carry a $2,500 balance. That’s a 50% credit utilization ratio, which isn’t ideal. Paying your balance down to $500 would lower your utilization to 10%—much better.
For an extra boost, you could consider asking your credit card issuer to increase your credit limit. Raising your credit limit while your balance remains the same translates into a reduced credit utilization ratio overall. Still, Griffin cautions against asking for an increase—it can make it easier to accumulate more debt or use the increased limit to get around paying down the balance. So only use this strategy if you’re confident you can keep your debt levels low.
4. Limit new credit applications
Applying for new credit can negatively affect your credit score because it results in a hard credit inquiry. This means a lender pulled your credit report to review it while evaluating your application. One or two hard inquiries may cause your credit score to drop slightly, but many within a short period of time can cause more damage; it’s a red flag to lenders that you may be desperate to borrow money.
if you do apply for a credit card or loan and get rejected due to your credit, take a beat before reapplying. The lender is required to send you a letter explaining what factors, specifically, caused that rejection. You can then use that information to improve your credit score before applying again.
Keep in mind that opening too many new accounts can also negatively impact your credit score because it lowers the average age of your total accounts. So to preserve your credit score, limit new credit applications when possible.
Having a good credit score is important for many reasons. Good credit allows you to borrow money at affordable rates, and gives you greater financial opportunity in general, according to Griffin. “It helps you access lower cost financial tools, [and] a strong credit history helps you break out of cycles of predatory lending,” he says. Plus, it may be a deciding factor when applying to rent an apartment, open a utility account, and more.
Using credit wisely, including paying your bills on time and keeping your overall debt to a minimum, are great ways to grow a strong credit score. But if you have limited experience using credit, there are several tools available to help you establish a score, too. Either way, it’s important to consistently work on building a good credit score and ensure it remains in good shape.
“It’s about giving yourself a financial advantage, and using it to your gain, as opposed to seeing it as a barrier,” Griffin says. “So if you have a good credit report, good credit score, it’s empowering.”