How to build credit

Are you a young person who has never used credit? Trying to rebound from past debt? New to Canada? Building your credit can seem daunting, but there are proven ways to do it.

When you don’t have a positive credit history, you may have to pay more in interest on loans — or you may not be able to qualify for credit at all.

Let’s take a closer look at credit, and how to go about responsibly building yours.

Why you should build your credit

When you apply for financial products like credit cards and loans, those lenders will often review your credit reports and credit scores to help with their decision. Your credit history can help them determine how risky it is to lend to you.

If you have low credit — or no credit at all — you may receive less-generous borrowing terms, such as a lower credit limit or a higher interest rate. If you don’t pay off your balance on time and in full every month, then a higher interest rate can end up costing you a lot more money over time on any money you borrow.

You could also have your credit application denied, which might force you to seek out other lenders with worse terms and interest rates.

By building good credit, you may be able to save money in the short term and eventually get approved for bigger items, such as a home or car. To put it another way, building credit can make it easier to live the kind of life you want.

Products that may help you build credit

There are a variety of credit products that can help you build credit over time, but one of the simplest and fastest ways to build is with a credit card. With some credit cards, you can be guaranteed approval if you meet qualifying conditions, making the application process even easier. In addition to a secured or retail card, you could look into a credit-builder loan to start constructing a credit history.

Secured credit cards

A secured credit card can be a great option when you want to build your credit, but you may not qualify for a card with a higher limit.

Otherwise, secured credit cards work mostly the same as any other credit card. The main difference is that you typically need to pay a deposit after you’re approved in order to access the account. Your credit limit is then usually based on the deposit you put down up front. For example, if you make a $500 deposit, that amount serves as your credit limit.

Here are some points to keep in mind before applying for a secured card.

• Fees: Find out if the card requires an annual fee, or any other fees that you may be required to pay out of pocket. These may include charges for paying late or exceeding your credit limit.
• Interest rates: Interest rates for carrying a balance will vary, so take the time to compare. Secured cards can have high interest rates, so it’s best to make on-time (and in-full) payments.
• Rewards: Although the rewards may not be as rich as for some credit cards, you’ll still want to see if you earn them for everyday spending.
• Benefits: Credit cards often come with benefits. For secured cards, a major benefit is that they can help you start building your credit.

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Retail credit cards

Another option is to apply for a retail credit card. A retail credit card is similar to a traditional credit card, except it’s offered by your favourite retailer. Major stores, like Hudson’s Bay, Walmart, Canadian Tire and others, offer them.

Retail credit cards often offer instant approvals. If your application is approved, you can start shopping with the card, earning rewards, and building your credit shortly after completing the application. They can be a useful option for individuals with low scores or a limited credit history.

Retail cards come with plenty of features worthy of a closer look.

• Fees: Retail cards may carry additional fees, such as an annual fee and a fee for requesting a copy of a statement or sales slip.
• Interest rates: The interest rates on these cards are typically high, so try to avoid carrying a balance.
• Rewards: Some of them offer rewards programs so if you’re a regular shopper at a particular store, you may be able to earn points or cash back.
• Limited usage: You may only be able to use a retail credit card at the retailer that issued it.

Credit-builder and -savings loans

If a credit card isn’t right (or enough) for your credit-building needs, you can also apply for a credit-builder or credit-savings loan.

Unlike many other loans, these credit-building loans provide no money upfront. Instead, you provide the loan amount yourself with regular monthly payments that are then reported to credit agencies.

If you make your payments on time and in full, then you can end the process with your full loan amount and positive activity reflected in your credit reports. With some savings loans, you might also finish the process with a savings account that earns interest.

As with any loan, the terms may not be right for your needs. Assess the interest rates, payment schedule, monthly payment amounts and fees associated with any loan before applying.

How to build credit responsibly

Once you’ve obtained credit, you’ll want to use it to build your credit history responsibly. Here are some tips on how to do this.

Make payments in full and on time. Not only can late penalties result in interest charges and fees, but they can also have a negative impact on your credit health. If you are in the habit of forgetting, consider adding a reminder of your credit card due date (for example, on your cellphone or a physical calendar) or setting up automatic payments.

Paying in full and on time can go a long way in improving your credit health. According to the Financial Consumer Agency of Canada, payment history is the most impactful factor that contributes to your credit scores.

If you’re unable to make full payments, aim to at least make the minimum payment on time. Making no payment and hoping it will go away will be detrimental to your credit health. The lender may report a late payment to the credit bureaus, Equifax and TransUnion. This can, in turn, negatively affect your credit health.

If you have an auto loan or mortgage and can’t make the payment in full, contact your lender to see if an alternative arrangement can be made. For example, some lenders like Royal Bank of Canada may let you skip a payment on your mortgage if you run into financial difficulties. However, this decision is at the lender’s discretion.

If you can avoid it, don’t get in a habit of only paying the minimum. It’s probably OK to do so once in a while if that’s all you can afford, but interest will add up if you regularly carry a balance on your credit card.

If possible, consider diversifying your credit mix. When you’re in the early stages of building credit, you may only have one form of credit, like a credit card. But when you’re on your way to having good credit, consider mixing it up with a variety of credit types. These could include a car loan, a line of credit or a student loan.

Even different types of credit cards may help your credit health. However, while having more credit types can help, don’t apply for too many in a short amount of time. Limit the number of credit applications you make, because each hard inquiry that goes along with an application can negatively impact your credit health. Also, make sure you can afford to repay any funds that you do borrow.

Bottom line

By understanding how to build credit, whether you’re new to Canada or you’re a young person, you can take the necessary steps to improve your credit. An easy way for many is a secured credit card, but a retail credit card or credit-builder loan might be an option for you.

Whichever option you choose, it’s important to borrow responsibly. That means making your payments in full and on time and avoiding common mistakes, like paying only the minimum every month.