Size matters. At least where your credit score is concerned.
Consider two would-be investors. Sandra has a high credit score, and qualifies for an 80% LTV loan at a 6% interest rate with two points.
Billy has shoddy credit. The lender offers him only 65% LTV, at 10% interest and four points. And to be honest, he’s lucky he got that offer; most rental property loans don’t allow credit scores under 620 (or 640, depending on the lender).
Both of them want to buy the same property: a $500,000 fourplex with gross rents of $8,000/month. Sandra’s loan would be $400,000, with $8,000 due in points at settlement, and a monthly payment of $2,398.20 (assuming a 30-year loan).
Billy’s loan would be $325,000 – he’d have to come up with $75,000 more in cash than Sandra. Yet he’d owe $13,000 in points at settlement, and his monthly payment would be $2,852.11.
So how can real estate investors improve their credit quickly? Here’s what you need to know as an investor, and how to build credit fast.
How Credit Scores Are Calculated
You’re probably familiar with the three main credit bureaus: Equifax, Experian, and Transunion. They each calculate credit scores slightly differently but use similar scoring models.
The most important factor is your payment history. If you make a payment more than 30 days late, it wreaks havoc on your credit score.
Next comes the percentage of available credit that you use. For example, if your credit card limit is $10,000, and your balance is $2,500, your credit utilization ratio is 25% (at least for that card). The credit bureaus like to see credit utilization ratios under 30%; they read it as “I’m not desperate, I’ve got my finances under control.”
They also like seeing a longer established credit history. Think about who you’d rather lend money to: someone with 20 years’ worth of good payment history, or someone with only 20 months’ worth of payment history?
Here’s a full pie chart showing how the credit bureaus calculate your credit score:
(Chart courtesy of Fundera)
And since I love visual graphics (who doesn’t?), here’s another graphic showing good and bad factors that impact your credit:
(Chart courtesy of MoneyUnder30)
Finally, note that the mix of credit types matters too. We’ll circle back to that shortly.
What’s a Good Credit Score?
We’re not going to pussyfoot around this question. If your credit is in the 500s, your credit sucks. But hey, that’s why you’re here: to learn how to build credit fast.
Credit scores in the low 600s are also terrible. In the high 600s, they become merely mediocre. By the low 700s they’re all right, and by the high 700s they’re strong. Over 800 and you have excellent credit and can probably stop reading here.
Before you take too much comfort from the Experian chart to the right, it’s worth mentioning that your credit needs are greater than most as a real estate investor. A credit score of 600 is not “Fair” for you – you won’t qualify for a rental property loan. You’re held to a higher standard than Joe Six-Pack (whoever he is), so aim to build your credit score to 750 at least.
Keep in mind that the higher your credit, the lower your interest rate, the lower your fees, and the lower your down payment. You can check out today’s rates and compare loan terms at Loan Depot to just how much of a difference credit scores make.
6 Steps to Build Credit Fast
All right, now that you have a sense for how credit works, let’s dive into the nuts and bolts of how to build your credit score, shall we?
Step 1: Check Your Credit Report & Fix the Errors
The credit bureaus process billions of transactions every single day. You’re smoking crack if you think they don’t make mistakes all… the… time.
And look, it’s not their responsibility to make sure your credit report is accurate. It’s yours.
So, before you do anything else, pull your credit report and check it for errors. Once a year, you can pull your credit report for free from AnnualCreditReport.com – it’s mandated by federal law.
But while it’s free once a year, it’s not a complete credit report. It doesn’t include your credit score, and isn’t particularly user-friendly. And once a year isn’t enough, if you’re looking to build good credit.
Fortunately, you can run your own credit report (and other background checks) using the tenant screening feature in our landlord app. Depending on whether you’re using a free account or premium account, it costs between $9-15 per report, and includes your credit score and complete credit history.
What do you look for, when you pull your credit report? Look first for accounts that aren’t yours, or accounts that should be reporting but aren’t.
Next look for incorrect late payments. If you paid on time, but your payments are showing as late, you need to contact the credit bureaus to let them know.
Lastly, look for any negative public records (bankruptcies, liens, foreclosures, etc.) that aren’t yours.
Credit bureaus make mistakes, and it’s your responsibility to fix them, if you want to build your credit.
Step 2: Get a Credit Card If You Don’t Have One
Yes, many people abuse credit cards. In fact, the average household credit card debt is up to $8,284 as of the end of 2018. Ugly.
But if you want to establish your credit history, you need to actually have some credit records reporting. As a first credit card, don’t expect to be approved for the ritziest cards with the best rewards. Your first priority is building credit, not rewards.
If you get turned down for a traditional credit card, you have two options:
- Get a cosigner, such as a family member, to sign as a guarantor for your credit card, or
- Get a secured credit card.
Secured credit cards require a deposit from you, as collateral against default. If you fail to pay them, they just take the collateral. And then ruin your credit by reporting your default with the credit bureaus.
Use your credit card sparingly. As a first credit card, just put one recurring monthly bill on it, and set up recurring monthly payments to your card to cover it. That way it’s all automated, and you don’t even need to remember to pay it.
Later, you can get fancy, like using your credit cards to buy real estate or score free travel, but for right now you just want to establish credit history to build credit fast.
Bonus Option: Become an Authorized Signer on Someone Else’s Card
One alternative to having someone else cosign your credit card is becoming an added signer on someone else’s credit card. The credit bureaus report the card balance and payments on your credit history too.
Just make sure the person is responsible about paying their card on time every month, and don’t actually use their card unless you have their express permission. Building your credit isn’t worth ruining relationships over!
Step 3: Get a Credit Builder Loan
One credit card isn’t going to cut it, when you’re looking to build credit quickly. Remember, part of your credit score calculation is based on the mix of credit accounts that you have.
So, open a credit builder loan as another type of credit account. “Loan” is actually a misleading term, as you’re the one who’s lending the money. It works like this: you agree to make a series of payments over a certain period of time, say $40 a month for 18 months. The “lender” reports your payments as on-time over the course of the loan, and at the end of the loan term, you get your money back.
Well, most of it, anyway. They keep a little for the trouble of reporting your payments to the credit bureau. No such thing as a free lunch, after all!
But as you look for how to build credit fast, credit builder loans offer another tool in your kit.
Step 4: Ask for a Credit Line Increase
Remember how the credit bureaus look at the ratio of credit used to credit available?
For rotating lines of credit (like credit cards), you can improve this ratio simply by getting a higher credit limit. If you routinely put $1,000 on your credit card every month, but your credit limit is only $2,000, then you’re using 50% of your limit every month. Bump the credit limit up to $5,000, and suddenly you’re only using 20% of your available credit each month.
As you build your credit history, creditors will be more willing to raise your credit limits.
Step 5: Have Your Rent Payments Reported to the Credit Bureaus
If you’re a renter, one way to build credit fast is reporting your rent payments to the credit bureaus.
Of course, you don’t have complete control over this. You’ll need to ask your landlord to collect rent using a service that reports the payments for you. But it helps them too, since it serves as additional incentive for on-time rent payments.
This is a feature we’re preparing to add to our online rent collection service – hint hint!
Step 6: Consider Credit Repair Services
While not everyone needs credit repair services, they can be an effective tool for improving your credit faster.
They’ll handled credit reporting errors and disputes for you, and show you exactly what to do to boost your individual credit score. In some cases they can even negotiate on your behalf with creditors.
Check out Credit America as a great example of a credit repair service, if you’d rather get some assistance rather than going it alone.
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Ongoing Habits to Build Good Credit
The steps above include the initial work to start building your credit score. But building and maintaining good credit is an ongoing project, not a one-time deal.
Here’s what you need to keep doing, if you want build credit quickly (and keep it).
Make Every Payment on Time, Every Month
Payment history is the highest-weighted factor in your credit calculation. I won’t belabor the point, you get it, but you need to make damn sure you pay every loan, every credit card, every creditor on time, every single month.
Set up automated payments, to make sure no month goes by without you making at least the minimum payment.
Pay Off Every Credit Card in Full, Every Month
Don’t leave a balance on your credit cards.
First, it’s expensive. The card company charges you interest if you leave a balance in place, and they don’t mess around on interest, typically charging 18-25%.
Second, it makes your credit utilization ratio high. That’s a huge factor in your credit scoring!
As a general rule, if you can’t afford to pay your credit card in full each month, you’re spending more than you can afford. Lock your credit card in a drawer somewhere until it’s paid in full, and stop spending so much. (Try these ideas to live on half your income if you’re serious about building wealth.)
Don’t Open Multiple Accounts at the Same Time
Every time you apply for a new credit account, whether it’s a mortgage or personal loan or credit card or whatever, the lender pulls your credit and it lowers your score temporarily.
So, don’t apply to a bunch of new loans or credit accounts at once, or it will drop your score significantly. Leave at least a few months in between credit applications if you can help it.
Leave Your Old Credit Cards Open (Unless They Charge)
The older the average age of your accounts, the better, as far as the credit bureaus are concerned. So the notion that you should close your old accounts for your credit’s sake? Yeah, that’s a credit myth, and completely untrue.
To keep that average age as old as possible, don’t open new accounts without a good reason, and don’t close your old accounts unless they charge an annual fee. Even if you don’t use the card anymore, it helps keep your average account age high.
If you have a card that does charge an annual fee, call the card company and tell them you’d like to close the card unless they waive the fee for you. Nine times out of ten they’ll waive it.
Check Your Credit Report Regularly
Checking your credit for errors is not one-and-done. It’s an ongoing struggle against bloated, error-prone, gigantic corporations.
One option is credit monitoring services, for regular reporting and alerts. Some credit cards include this feature as a perk, by the way.
Or you can just run them using our credit check service. Just sayin’.
“How Do I Start Investing Now with Terrible Credit?”
You do have options, even if you have bad credit.
Your best option is house hacking – you buy a home to live in yourself for at least a year, and rent out rooms or adjoining units. As a bonus, you get to live for free, or at least for a greatly reduced housing cost. Here’s how one young man with no real estate experience house hacked a duplex.
A nice benefit to house hacking is that you can get an FHA loan with only 3.5% down if your credit is as bad as 580, and a 10% down payment if your credit is between 500-579. Alternatively, Fannie Mae and Freddie Mac have loan programs with as little as 3% down. You can compare today’s interest rates, fees, and down payment requirements on Credible or Loan Depot.
After a year you can move out and keep the property as a rental. Or keep living there for free!
Anyone can build good credit quickly, but it does take a little (gasp!) work.
Follow the steps above as your guide to how to build credit fast, and just as importantly, make those ongoing credit habits part of your routine.
Good credit history pays ongoing dividends, especially for real estate investors looking for inexpensive rental property loans. The better your credit, the more options are available to you to finance your rental portfolio.
Which, after all, is one of the great advantages to real estate investing: leveraging other people’s money to build your asset portfolio. Don’t take it lightly, and ignore your credit score at your peril.
What are you doing to improve your credit? How has credit impacted your ability to borrow and leverage other people’s money to build your real estate portfolio?