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How Credit Works

What is credit history?

By Donna Freedman
Reviewed by Lauren Bringle, AFC®

You hear a lot about “good credit” or “bad credit,” or people working to improve their credit. What they mean by “credit” is your credit history, which is a record of how you handle your money. ^[1] That includes factors like whether you’ve taken out loans (including a student loan or auto loan), used credit cards, paid your bills on time, or had issues such as defaults or bankruptcy.

Credit reporting agencies use your credit history to come up with your credit score, which has an enormous impact on your financial life.^[2] It’s essential to build a strong credit history, or to take steps to repair a substandard one.

Why is it important to have a positive credit history?

When a lender sees that you’ve handled credit responsibly in the past, they’re more likely to want to work with you. But if your credit history is not great – maybe you owe a lot of money, or you often make late payments – then you won’t get favorable terms for loans, including mortgages.^[3]

In fact, you might not get a loan at all from a conventional lender – and alternative sources like online personal loan lenders and subprime loan lenders tend to charge higher interest rates and may tack on extra fees.^[4]

Insurance companies, landlords, potential bosses and auto dealers might also want a look at this information.^[5] A negative credit history could even mean paying more (including security deposits) for utilities, cable or a smartphone.^[6]

Insufficient credit history vs. bad credit history

Neither one is good! But both can be fixed.

What is insufficient credit history?

Insufficient credit history is just what it sounds like: You don’t have enough (or maybe any) experience with loans or credit cards.^[7]

Lenders, landlords and others won’t know if you’re a good credit risk because they’ve got nothing to go on.

What is bad credit history?

A bad credit history means you’ve had experience – just not the good kind. Things like consistently late payments, a high ratio of credit utilization or credit card debt, defaults, accounts sent to collections and repossessions can add up to a poor credit history.^[8]

Building better financial habits will improve your credit history and make lenders and others more likely to work with you. (For a step-by-step guide, see “How to Build (Or Rebuild) Credit.”)

What is the difference between a credit report and credit history?

As noted earlier, your credit history is a record of your financial habits. Your credit report is a summary of those habits.

Creditors provide your payment information to the major credit bureaus: Equifax, Experian and TransUnion. This becomes your credit report, which is available for a fee to potential lenders, landlords and others.^[9]

It’s a good idea for consumers to check their credit scores and credit reports, too. If there’s information on there that you don’t recognize, it could be a simple clerical error. However, it could also be a sign of identity theft.

(Learn how to read a credit report.)

Note: You don’t have to pay to view your credit report. Each year you are entitled to one free credit report per year from each of the bureaus.^[10] Every four months, order a free report until you’ve gotten them from all three bureaus. Do this every year to protect your credit history and your good financial name.

How do those two things affect your credit score?

Both an insufficient credit history or a bad credit history will negatively affect your credit score.

An insufficient credit history means the credit reporting companies don’t have much to work with. To generate a credit score you generally need one or two accounts that have been active for at least three to six months. And if you’ve never opened any kind of credit account? You won’t have a credit score at all.^[11]

Why is your credit history different with different credit bureaus?

Simply put, not every financial institution reports to all three of the major credit reporting agencies. For example, you may have a personal loan at company A that only reports to Equifax, while your car loan through company B reports to TransUnion. In this case, your credit reports at the two bureaus will look a little different, because they show different pieces of your credit history.

Note: not all lenders pull from each major credit bureau when they check your credit during applications either.

That’s why it’s important to both check your credit history at each of the major credit bureaus, and build credit with them all too. After all, having a credit history with Equifax doesn’t help if you apply for a loan at a company that only pulls from Experian, for example.

Since each credit bureau may hold slightly different information about you, your credit score can look different depending where you check it.

The best-known credit score comes from Fair Isaac Corporation. The company collects information from the three major agencies to create the FICO® score, the most widely used credit score.

You’ll also have scores from each of those credit reporting agencies. They use Fair Isaac’s credit scoring models to calculate their own versions of a FICO score.^[12]

Your FICO score from Fair Isaac is “bureau-specific,” which means you’ll get three slightly different scores. That’s because not every single creditor reports to all three bureaus.^[13]

Your credit scores and reports might also vary for other reasons:^[14]

The day the score was calculated or your credit report pulled. For example, maybe you have no credit card balances one week, and the next week you buy new living-room furniture.

Inaccurate data. Mistakes happen, which can cause your credit information to appear on someone else’s report. Or for someone else’s to appear on yours – and if that person has bad financial habits, your score might take a dive.

Data differences. The different bureaus could have different ways of storing, displaying or recording your information.

Lag time. Creditors could report to the bureaus at different times, which means Bureau A has info that Bureaus B and C don’t have yet.

How can you build credit with no credit history?

No one is born with great credit! You have to build it from the ground up.

This is challenging because you can’t build a credit history without using credit – but it isn’t always easy to get credit without having any credit history. Here are a few ways to get going:

Become an authorized user.^[15] Ask someone with strong money habits to add you to one of their credit cards. You’ll get the benefit of that person’s good credit history and score by using the card.

Get a secured credit card. Secured credit cards carry a low spending limit (often $300 or less) and require you to put down a security deposit.^[16] Make sure the lender reports to the credit bureaus.

Apply for a store credit card). These tend to be slightly easier to get.^[17] However, they also tend to have a high interest rate, so be careful not to overspend.

Consider a Certificate of Deposit loan. This requires you to lock up money for a certain period of time. Some banks or credit unions let you use the CD funds as loan collateral.^[18]

Look for a cosigner. A relative might be willing to cosign for your personal or vehicle loan. If you do this, be sure to have a solid repayment plan because should you default, the cosigner is on the hook for the full amount.^[19]

Take out a credit builder loan. The lender puts a “loan” into a savings account and you make payments for anywhere from 6 to 24 months; these payments get reported to the credit bureaus. Many lenders also require a deposit. When the term ends, you get the cash.

Note: Self offers credit builder loans online or through a mobile app. You don’t need to pay a security deposit.

The bottom line

The high cost of bad credit can hold you back financially. You’ll have trouble getting good rates for credit cards or for personal, auto or mortgage loans – and all the extra money you pay out in interest is money that can’t work for you in any other way.

Take steps to create and maintain a strong credit history. Doing so will help you meet your financial goals and live your best life.

About the author

Longtime personal finance writer Donna Freedman lives and writes in Anchorage, Alaska. See Donna on Linkedin or Twitter.

About the reviewer

Lauren Bringle is an Accredited Financial Counselor® with Self Financial – a financial technology company with a mission to help people build credit and savings. See Lauren on Linkedin or Twitter.