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Why You Need to Start Building Credit in Your 20s

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An important step toward financial well-being — and wealth later in life — is learning to build and manage your credit. There’s more than one way to do this. But whatever path you choose, the key is to start early and work on it often.

You won’t have perfect credit when you’re just starting out. It takes time to build good credit from scratch, and to recover from money mistakes you may have already made. But there’s no benefit to putting it off. Here’s what you need to know to get started.

What is your FICO Score and why is it important?

Your FICO Score is like a grade for your financial management skills. It’s calculated by the Fair Isaac Corp. (FICO), an analytics company, using information from your credit report. This means that your history of paying your bills on time, how much you owe to lenders and how long you’ve been building credit will all factor into your score.

FICO scores fall between 350 and 800. Lenders look at your score to determine whether they should give you a credit card or loan you money to buy a car or house. Your utility company, your landlord and even potential employers may also request information about your credit. If you have a low score — or if you don’t have enough information in your credit file to have a score at all — you may not be able to borrow money or even get certain jobs.

There are other credit scoring models out there. You may have heard of VantageScore, for example. But FICO is the score that lenders most frequently use to make financial decisions.

What are the advantages to building credit in your 20s?

Good credit allows you to borrow money when you need it. Banks, credit card companies and other lenders look at your credit history and score to judge whether you are likely to pay back your debts in a timely manner. If you have a low score or a long list of missed payments, you may not qualify for that car loan or travel rewards card.

Even if you aren’t making large purchases, like a house, right now, good credit sets you up for doing so later.

Good credit reduces the price of borrowing. Even if lenders are willing to work with you despite your poor credit, they’ll likely charge you higher interest rates on your credit cards and loans. Utility companies, cellphone providers and insurance companies may require deposits or charge additional fees before they offer you services. With bad credit, you’ll pay more over time to borrow money.

Good credit can help you build wealth. Credit isn’t just for buying groceries and clothes. You can use credit to purchase assets that increase your net worth, like a car or a home or even higher education.

Good credit gives you the cushion to make smarter financial decisions. Your financial well-being is heavily dependent on your credit. Good credit can give you the confidence to switch jobs, move to a new city or make a big purchase.

What are common ways young people hurt their credit score?

Managing money is challenging, especially when you’re first learning to navigate paychecks, taxes, savings accounts, retirement funds and credit cards. Here are some common mistakes to avoid. (And if you do damage to your credit score, there are services you can turn to that might help.)

Mistake No. 1: Using credit irresponsibly

Your payment history makes up 35% of your FICO Score, and the total amount you owe relative to the amount of credit you have accounts for 30%.

This means that if you don’t pay your bills when they’re due, or if you max out your credit cards and don’t chip away at the balances, your score will take a hit. You can’t just spend it and forget it. Luckily, there are plenty of straightforward strategies to help you manage credit responsibly.

Mistake No. 2: Not using credit at all

If you never open a credit card account or take out a loan, you never have the opportunity to demonstrate that you can manage credit responsibly. Payment history is the most important factor in your FICO Score, and the amount of time you’ve had open credit lines also has an impact.

Without enough information in your credit report, FICO can’t give you a score, which means lenders, landlords and others may not risk working with you.

“Credit cards are the best thing and worst thing kind of at the same time,” said Lucas Casarez, a certified financial planner and founder of Level Up Financial Planning in Fort Collins, Colo. “It just depends on discipline and an understanding of how to use it.”

Casarez said that too many young adults believe all debt is bad. This resistance to using credit is often the result of misinformation, a lack of financial education or the experience of seeing loved ones affected by poor credit, he added.

Mistake No. 3: Allowing a roommate or partner to take over credit use

It’s not uncommon for one roommate to put all the bills in their name, or for the spouse who has better credit to take out the mortgage on the house.

While this may seem like a winning strategy in the short term — you’re more likely to get approved with better interest rates if lenders only see higher scores — it can hurt you in the long run. The person who isn’t on the utility account or home loan application never has an opportunity to record payments and build credit themselves. Or if all the bills are in your name, and your roommate decides to stop paying, you could end up with damaged credit through no fault of your own.

“I don’t find that to be a good way to manage joint finances,” Casarez said.

While joint money management should be a partnership, each individual has their own credit history and credit score to watch out for.

The takeaway

Building credit is an important step toward being an adult and a critical element of financial management. Good credit can set you up for success throughout your life. But it takes time to build, so it’s best to start early.

“Your finances are so reliant on your credit,” Casarez said. “Unless you come right out of the gates making more money than you’re spending, most people need to access credit to some capacity and to leverage [it] in some way to build wealth.”


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