Establish Credit if you Don't Have Any

how to buy a house with no credit

Bad Credit is a lot worse than No Credit, but you should still seek to establish some credit if you don't have any. You may be able to get away with having no credit history if you're getting an FHA loan (vs. a conventional loan), but still, it never hurts to have credit.

Credit cards and bank loans are just about the only things that will show up postively on your credit report. Other items like utility bills and rent payments usually DON'T appear on your credit report to show that you've paid them on time; they only show up when you DON'T pay on time. They can't help you, they can only hurt you. Yeah, it's not fair, but what are you gonna do?

What you're gonna do is at least get some things on your credit report that CAN help you. You want at least two items on your credit report: two credit cards, or a credit card and a bank loan (like a car loan). Of course, don't rush out and buy a car just because you don't have a car loan; it's easier to just get two credit cards. The primer below will help you do this.

Getting a Discover Card

Discover is one of the easiest cards to get. Just call 1-800-DISCOVER, they'll ask you some basic questions like how much money you make, and you have to make only $15,000 a year to qualify, as I write this in fall 2006. And if you're a college student then there is NO minimum income requirement. (I got my card when I was a student, but they didn't ask for any documentation to prove I was.) After answering the questions, you'll get an answer on whether you were approved for the card in just a few days.

Getting a Visa or MasterCard

While the Discover card is available from only one source (the company that owns Discover), Visa and Mastercard are issued by individual banks -- so there are hundreds of places to get a Visa or Mastercard -- and if one turns you down there are plenty more.

Start with the bank that carries your checking or savings account. Just go in and ask for a credit card, and they'll see if you qualify. If you have a Visa check card or debit card on your checking account, that does NOT count as a credit card and doesn't show up on your credit report; you'll need to obtain a credit card separate from that. Your bank probably won't ask why you want a credit card when you already have one on your checking account, but if they do just be honest: You're trying to establish credit. (Or, it may be that you want to charge more than you currently have in your checking account.)

If your bank says you don't qualify for a credit card, then ask for a secured credit card. This means you put money into an account (often a savings account) and you can charge no more than the amount in the account. It sounds like a Visa check card on a checking account, but the difference is that this is a "real" credit card and shows up on credit reports to help you build credit. (Some secured cards don't help you build credit, so make sure you ask your banker if their secured card will.)

If your bank doesn't offer secured credit cards, find another bank. There's almost certainly a bank in your area which offers them. You can also search for them on the net.

How to use the card

Your goal in getting a card is to prove to a home lender that you pay your bills on time, so that's what you should do: Use the card and pay your bill on time. If you never charge anything to the card, it won't help you much. And if you use it but don't pay your bill on time, then that's worse than not having a card at all.

How much should you charge? The amount you charge isn't as important as the fact that you're charging something and that you pay your bill on time. Of course, you don't want to be making frivolous purchases just because you want to establish credit. Probably the easiest thing to do is to just buy your groceries with your card, and to restrict yourself to buying ONLY your groceries with it (especially if you're worried that you might not be able to control your card spending). When you get your credit card bill each month, pay it off in full. This has other benefits besides establishing credit -- you don't have to fiddle around with writing checks when you go grocery shopping, you'll have fewer entries to deal with in your checkbook, and it'll be a lot easier to see how much you're spending each month on groceries if all your groceries are on your credit card bill and nothing else is.

By the way, credit reports list both how much your average balance is and how much you pay each month, so charging $5 each month and paying it off isn't going to fool anybody -- but doing that would still be a lot better than charging nothing at all.

Credit card interest

As long as you control your spending and

pay off your balance in full each month, there's nothing to fear from credit cards. If you pay off your balance in full, you don't have to pay any interest on your purchases -- not one cent. This is how you should use a card.

Card companies hope that you WON'T pay off your entire balance and that you'll just make the "Minimum Payment" listed on your credit card bill instead. It looks so enticing -- if your credit card bill is $1000 you can make a minimum payment for perhaps just $20. And the next month you can pay just $20. Paying $20 certainly seems a lot more attractive than paying $1000.

Here's why you should never make the minimum payment: It will take you forever to pay off your card, and you'll pay interest out the wazoo. If you make the minimum payment on a $3000 balance with 20% interest, it will take 31 years to pay off, and you'll pay a total of $12,000! (And yes, credit card interest is around 20%.)

The moral of the story is: Pay off your balance in full every month. If you've gotten yourself into debt and you can't pay off the whole balance, then pay at least double or triple the minimum payment. (In the above example, doubling the minimum payment cuts your payoff time down to 6 years and $4600 total.) If you have multiple cards, pay more aggressively on the cards with higher interest rates.

Don't take cash advances

You don't pay any interest on purchases if you pay off your balance when you get your bill, but if you get a cash advance on your card, you start paying interest from the millisecond you get the money -- PLUS you pay a cash advance fee. Never take a cash advance on a credit card unless it's an emergency.

Debt shifting

As soon as I bought my first house, banks started mailing me all these offers for free gold and platinum credit cards. So I signed up for about five of them. I didn't use them, but I thought they might come in handy someday. I was right.

A few years later when I was getting ready to sell the house, I didn't have the cash to make all the improvements I'd planned, so I put about $10,000 on a few of the cards, figuring that once I sold the house I'd be able to pay the balance off in full. In the meantime, while the work was being done and I was waiting for a buyer, I got an offer from one of the cards I hadn't used for me to transfer my balances from my other cards and pay only 5% interest for six months. Great, I readily transferred my balances to the unused card.

I sold the house, but since the interest rate was so low, I didn't pay off the balance right away. Then I got an offer on one of the other cards to transfer my balance there, for 3% for five months. So I transferred my balance there.

I finally realized that I was making money by holding onto the credit card debt! I could take $10k out of my investments and pay off my credit cards, but that $10k was making me 10-30% in socially-responsible investments. By paying off the cards I'd be giving up 10-30% in order to save 5%. So I held onto the debt, and simply kept shifting from one card to the other for years. In the rare event that I didn't get a mail offer for a balance transfer from one of the cards, I'd just call up the card company and ask for a low balance transfer offer, and they always gave it to me. I also asked them to waive the balance transfer fee, and they almost always obliged. For years I never paid more than 5% on my debt. I didn't pay it off until I sold off my investments when the stock market tanked in 2001.

Note that debt-shifting is risky, since the stock market is unpredictable. If you wind up losing money in the stock market, then you've not only lost money, but you've had nothing to offset the interest on your credit card balances.

Under 18?

If you're under 18 then you won't be able to get a credit card, but you might be able to get a bank loan if your parents co-sign for you.

How to figure how much of your payment goes to interest

An advanced topic for the curious: When you make your payment, how much goes to interest? Just take your balance and multiply it by the interest rate divided by 12. (There are 12 months in the year, and you want to figure only the monthly interest, not the yearly interest.) If your balance is $3000 and the interest rate is 20%, then your monthly interest is $3000 x (20%/12) = $50.

How is the minimum payment figured? It's usually 1/48th of your balance, or $20, whichever is higher. So your minimum payment would be $3000/48 = $63. So if you make the minimum payment of $63, then $50 will go to interest and only $13 will go towards paying down your balance. After making this $63 payment your outstanding balance will be $2987. Ouch.


Category: Credit

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