What is Credit?

Credit is an agreement you make with a lender that allows you to pay for goods or services now. In return, you agree to pay the lender back, usually with interest. Some common forms of credit are credit cards, mortgages, personal loans, payday loans, student loans, and car loans. Each form of credit comes with specific terms agreed upon between creditor and borrower. You have rights as a borrower, and creditors have rights of their own.

The True Cost of Credit

There’s more to opening a line of credit than simply getting approved. Approval doesn’t mean you can afford what you’ve been given. That’s why it’s important to understand the true cost of credit before entering into an agreement. Can you afford the fees, interest rate, and other charges? How long will it take you to pay back what you borrow? You need to make sure that you understand the fees and charges and that the monthly payments fit into your budget.

Building, Maintaining, and Improving Credit

Credit cards can be a convenient way to spend now without having to pay until later, but you need to be careful. Building, maintaining, and improving your credit takes work and knowledge.

Building Credit
If you’re just starting out on your credit-building journey, one of the quickest and safest ways to build credit is to get a secured credit card. This type of card is backed by a cash deposit that you pay in advance. In some ways, it functions like a debit card, but it allows you to build credit. The deposit amount is typically the same as your credit limit. When hunting for a secured credit card, look for one that reports your activity to all three major credit bureaus: Experian, Equifax, and TransUnion.

Another way to build credit is to become an authorized user on someone else’s credit card. Consider asking a family member who is in good credit standing to add you as an authorized user on one of their cards. Use of the card is reflected on both your credit reports, and that’s why it’s important for both of you to practice responsible credit use.  

Loans can help you build credit without a credit card. For many young people, student loans and car loans are their first forms of credit. As with all forms of credit, loans are reported to the credit bureaus, and that helps you build a credit history.

Maintaining Credit
The number one most important rule with credit is to pay your bills on time. That’s because your payment history is the single biggest factor in calculating credit scores. If you miss a payment by 30 days or more, call the creditor immediately. Arrange to pay your debt and ask the creditor not to report the missed payment to the credit bureaus. They might say no, but you should still try. Late payments will hurt your credit score, but all isn’t lost. Correct the mistake as soon as possible and avoid late payments in the future. Reestablishing good credit behavior will improve your score over time.

One of the best ways to protect yourself against late payments is to set up automatic payments when possible. You might already do this for your utilities. Setting up automatic payments eliminates the risk of forgetting to pay. Just be sure you monitor the accounts used for automatic payments. If the money isn’t there when it comes time for a withdrawal, you could end up with overdraft penalties.

In your quest to maintain good credit, you should carefully consider any new lines of credit. New credit inquiries account for ten percent of your credit score. That means each time you take up a retailer’s offer to open a new card to save a small amount of money on a purchase, you’re hurting your credit score. Sometimes, it makes sense to open these new cards, but that’s typically only true on exceptionally large purchases, such as for a house or car.

Improving Credit
Making so-called “micropayments” can help you maintain low balances and improve your credit at the same time. Micropayments are small payments that you make throughout the month, rather than one large payment at the end of your billing period. It reflects well on your credit utilization, which is another factor in your credit score.

When possible, pay off your credit cards in full each and every month. Many people believe that carrying a credit card balance can improve your credit score, but that isn’t true. Besides, paying off your debt in full helps reduce your risk of accumulating more debt than you can afford. It also reduces the interest you pay.

Speaking of interest, did you know you can request lower rates? If you’re in good standing with a lender, they’re likely to agree. The worst thing that can happen is they say no. But since credit lenders value you as a borrower, they’re often willing to keep you happy so that you’ll keep borrowing money.

Finally, it’s important to dispute errors! Mistakes happen, even on credit reports. That’s why it’s vitally important that you check your credit report regularly. You are entitled to three free credit reports per year (one from each of the three major credit bureaus: Experian, Equifax, and TransUnion.). Look at these reports carefully and dispute any errors you find. The credit bureaus have 30 days to investigate and respond.
 

Helpful Resources

Credit Calculators
Credit Reports and Scores
Debt Management