In my last finances blog (How to save money), I discussed strategies for accumulating your savings. Another tool nearly everyone uses at some point is credit. This blog provides you with some advice on how to manage your credit.
Managing your credit
1. Introduction
2. Check your credit history
3. Develop a credit history
4. Improve your credit
5. Summary
1. Introduction
Modern Americans have become accustomed to getting credit (the ability to borrow money rapidly) whenever they want it. Most often this credit takes the form of a credit card which is really an account which allows you to borrow money on a whim for any reason what-so-ever. But credit doesn't have to take the form of a credit card, credit can be a mortgage, home equity line of credit, automobile loan, student loan, investment margin accounts, or any other of thousands of other types of loan accounts.
Because credit allows you to do things with very little of your own money, it can become a very powerful tool to help you when you need help. On the other hand, borrowing money to get a fancy cell phone or a 'burger at McDonald's is not just a poor choice, it can actually lead the borrowing into an accumulating debt "death" spiral of rapidly increasing debts. Despite news stories of people bankrupted by unexpected medical expenses or job losses, the unrestrained and unmonitored spending is what most often leads to bankruptcies.
So if you learn nothing else from this blog, remember this: debt is a powerful tool. You can use it to dramatically improve your life or you can use it to dig your own financial grave. Enter into each credit relationship with your eyes open as to your specific goals for opening that account.
Do NOT do as I did and rack up debt with multiple credit cards - as this kind of debt "hole" can take a decade or longer to dig out of!
It used to be essential for you to maintain a good credit rating to ensure that you could get a loan at a good interest rate. However, lately many employers have begun to check your credit rating to determine whether to hire you! It is WELL worth your time to keep your credit clean.
Back to the top
2. Check your credit history
If you have attempted to get a loan in the past, you may know that the loan officer checks your "credit report" to determine whether to make the loan to you and how much interest to charge you. Your "credit report" is a list of all loans that you have made over your entire life. Bad information eventually does drop off - but it will take 7 years for your record to get clean again. Credit reports are maintained by 3 credit reporting companies
Equifax (www.equifax.com)
TransUnion (www.transunion.com)
Experian (www.experian.com)
These are the companies which consolidate all of the information available about you and your credit history. The credit rating companies sell your credit information to companies which may want to offer you a loan. You used to be able to purchase your own credit report too, however, beginning in January of 2005 all three companies will provide 1 free credit report each year about you to you.
Go to the websites listed above and get your 3 free credit reports each year. Verify that all of the credit information is accurate. The free credit reports include instructions for disputing or correcting incorrect information - especially look for signs of identity theft (someone taking out credit in your name). If there are errors on your report the credit reporting companies will often work with you to correct them. If you encounter trouble you have substantial rights. For a list of these see http://www.ftc.gov/bcp/conline/pubs/credit/fcra.htm .
Additionally the credit report will also include the top reasons for your "low score", even if you have a high score. This list should help you identify what you need to do to improve your score. It may include such things as "credit history too short", accounts with late or missing payments, etc. Use this information to work on improving your credit history.
Note there's a related piece of information called a "credit score" but this will NOT be included on your credit history report (you must still purchase this if you want it). Your credit score is a single number which companies use as a single evaluation of all of the information in your credit history. There are many different types of credit scores with each company using its own proprietary (meaning company secret) rating and each companies scale is different too but the bigger the number the better.
The most commonly used score (FICO) is used by both Equifax and TransUnion. It ranges from 300 (worst) to 850 (best). The best rating is anything above 700 or so.
Back to the top
3. Develop a credit history
If you have no credit history or the history you do have is anemic, you can begin developing a credit history now so that you have a good credit history when you need it, for example when you begin shopping for your first house.
Any debt you take out, you will have to pay back with interest - meaning you will pay more than you get. To compensate for the interest you pay, you need to ensure that any debt you incur provides you with more benefit (more money back) than its cost.
For financial investments, such as taking on a mortgage, it is possible to figure out whether the benefit of owning the home (not paying rent, etc.) out weighs the interest costs of the mortgage. For non-financial investments, such as a college education, it is much more difficult to determine the cost versus benefits of the debt. Most other consumer debts, such as automobile loans, are bad for your financial health. If you must take on these kinds of debts, keep the amount of debt to the absolute minimum.
When you try to develop a credit history you DO NOT need to take on debt.
If this is your first credit card, you may only get a credit line of a couple of hundred dollars. Do not worry about this, the credit company realizes that you are new to the credit scene and is limiting the amount of damage you can do to both them and yourself.
I would pass on the card that requires a a co-signer for the card. A co-signed card makes the co-signer responsible for your debts if you don't pay them (no offense to my own kids, but I would not co-sign a credit account for them). Instead try getting a credit card account from a bank in which you have established a long history. Similarly skip on credit cards which charge an annual fee.
After you get credit card, you should use it to pay some periodic bill. When you pay the bill with your credit card, transfer the money normally used to pay that bill from your checking account into your savings account. Then as soon as your credit card bill arrives, pay it off in full with the money you had set aside. If you do this in conjunction with an on line bill payment system, you can actually set up the credit card bill payment to pay off your credit card in full at the time you incur the charge!
Pay your credit card in full every month
You may already know this, but it is important enough to restate. If you pay your credit card in full every month, the credit card company charges you NO interest! Essentially you get to hold onto your money and earn interest on that money for a couple of extra weeks. At today's interest rates, that won't add up to much but a little extra money is better than losing money.
Back to the top
4. Improve your credit
If you have a credit rating lower than the prime rating, there are a number of things you can do to improve that score.
The first thing to do is get your credit history and follow the directions for correcting any errors you find on your report.
Look through the list which explains the top reasons that your credit score is low. Work through this list and address the issues that it identifies.
Ensure that you pay all of your bills on time - meaning BEFORE its due date.
Continue using your credit account responsibly
If you have negative information (late/missed payments), you will also need to wait a long time, meaning as much as 7 years, for that negative information to disappear from your credit history.
When you get your annual free credit history, check it for any negative information that was not removed after 7 years. If you find some, contact the credit reporting agency and remind them to removal this information.
Back to the top
5. Summary
Remember it takes years to develop a good credit rating but it can be wrecked in just a couple of months. Once spoiled, it'll take another 7 years for evidence of your indiscretions to drop off of your credit report.
Back to the top
Proceed to my next finance blog, Fee$!.
Return to the previous finance blog, How to save money.
Managing your credit
1. Introduction
2. Check your credit history
3. Develop a credit history
4. Improve your credit
5. Summary
1. Introduction
Modern Americans have become accustomed to getting credit (the ability to borrow money rapidly) whenever they want it. Most often this credit takes the form of a credit card which is really an account which allows you to borrow money on a whim for any reason what-so-ever. But credit doesn't have to take the form of a credit card, credit can be a mortgage, home equity line of credit, automobile loan, student loan, investment margin accounts, or any other of thousands of other types of loan accounts.
Because credit allows you to do things with very little of your own money, it can become a very powerful tool to help you when you need help. On the other hand, borrowing money to get a fancy cell phone or a 'burger at McDonald's is not just a poor choice, it can actually lead the borrowing into an accumulating debt "death" spiral of rapidly increasing debts. Despite news stories of people bankrupted by unexpected medical expenses or job losses, the unrestrained and unmonitored spending is what most often leads to bankruptcies.
So if you learn nothing else from this blog, remember this: debt is a powerful tool. You can use it to dramatically improve your life or you can use it to dig your own financial grave. Enter into each credit relationship with your eyes open as to your specific goals for opening that account.
Do NOT do as I did and rack up debt with multiple credit cards - as this kind of debt "hole" can take a decade or longer to dig out of!
It used to be essential for you to maintain a good credit rating to ensure that you could get a loan at a good interest rate. However, lately many employers have begun to check your credit rating to determine whether to hire you! It is WELL worth your time to keep your credit clean.
Back to the top
2. Check your credit history
If you have attempted to get a loan in the past, you may know that the loan officer checks your "credit report" to determine whether to make the loan to you and how much interest to charge you. Your "credit report" is a list of all loans that you have made over your entire life. Bad information eventually does drop off - but it will take 7 years for your record to get clean again. Credit reports are maintained by 3 credit reporting companies
Equifax (www.equifax.com)
TransUnion (www.transunion.com)
Experian (www.experian.com)
These are the companies which consolidate all of the information available about you and your credit history. The credit rating companies sell your credit information to companies which may want to offer you a loan. You used to be able to purchase your own credit report too, however, beginning in January of 2005 all three companies will provide 1 free credit report each year about you to you.
Go to the websites listed above and get your 3 free credit reports each year. Verify that all of the credit information is accurate. The free credit reports include instructions for disputing or correcting incorrect information - especially look for signs of identity theft (someone taking out credit in your name). If there are errors on your report the credit reporting companies will often work with you to correct them. If you encounter trouble you have substantial rights. For a list of these see http://www.ftc.gov/bcp/conline/pubs/credit/fcra.htm .
Additionally the credit report will also include the top reasons for your "low score", even if you have a high score. This list should help you identify what you need to do to improve your score. It may include such things as "credit history too short", accounts with late or missing payments, etc. Use this information to work on improving your credit history.
Note there's a related piece of information called a "credit score" but this will NOT be included on your credit history report (you must still purchase this if you want it). Your credit score is a single number which companies use as a single evaluation of all of the information in your credit history. There are many different types of credit scores with each company using its own proprietary (meaning company secret) rating and each companies scale is different too but the bigger the number the better.
The most commonly used score (FICO) is used by both Equifax and TransUnion. It ranges from 300 (worst) to 850 (best). The best rating is anything above 700 or so.
Back to the top
3. Develop a credit history
If you have no credit history or the history you do have is anemic, you can begin developing a credit history now so that you have a good credit history when you need it, for example when you begin shopping for your first house.
Any debt you take out, you will have to pay back with interest - meaning you will pay more than you get. To compensate for the interest you pay, you need to ensure that any debt you incur provides you with more benefit (more money back) than its cost.
For financial investments, such as taking on a mortgage, it is possible to figure out whether the benefit of owning the home (not paying rent, etc.) out weighs the interest costs of the mortgage. For non-financial investments, such as a college education, it is much more difficult to determine the cost versus benefits of the debt. Most other consumer debts, such as automobile loans, are bad for your financial health. If you must take on these kinds of debts, keep the amount of debt to the absolute minimum.
When you try to develop a credit history you DO NOT need to take on debt.
If this is your first credit card, you may only get a credit line of a couple of hundred dollars. Do not worry about this, the credit company realizes that you are new to the credit scene and is limiting the amount of damage you can do to both them and yourself.
I would pass on the card that requires a a co-signer for the card. A co-signed card makes the co-signer responsible for your debts if you don't pay them (no offense to my own kids, but I would not co-sign a credit account for them). Instead try getting a credit card account from a bank in which you have established a long history. Similarly skip on credit cards which charge an annual fee.
After you get credit card, you should use it to pay some periodic bill. When you pay the bill with your credit card, transfer the money normally used to pay that bill from your checking account into your savings account. Then as soon as your credit card bill arrives, pay it off in full with the money you had set aside. If you do this in conjunction with an on line bill payment system, you can actually set up the credit card bill payment to pay off your credit card in full at the time you incur the charge!
Pay your credit card in full every month
You may already know this, but it is important enough to restate. If you pay your credit card in full every month, the credit card company charges you NO interest! Essentially you get to hold onto your money and earn interest on that money for a couple of extra weeks. At today's interest rates, that won't add up to much but a little extra money is better than losing money.
Back to the top
4. Improve your credit
If you have a credit rating lower than the prime rating, there are a number of things you can do to improve that score.
The first thing to do is get your credit history and follow the directions for correcting any errors you find on your report.
Look through the list which explains the top reasons that your credit score is low. Work through this list and address the issues that it identifies.
Ensure that you pay all of your bills on time - meaning BEFORE its due date.
Continue using your credit account responsibly
If you have negative information (late/missed payments), you will also need to wait a long time, meaning as much as 7 years, for that negative information to disappear from your credit history.
When you get your annual free credit history, check it for any negative information that was not removed after 7 years. If you find some, contact the credit reporting agency and remind them to removal this information.
Back to the top
5. Summary
Remember it takes years to develop a good credit rating but it can be wrecked in just a couple of months. Once spoiled, it'll take another 7 years for evidence of your indiscretions to drop off of your credit report.
Back to the top
Proceed to my next finance blog, Fee$!.
Return to the previous finance blog, How to save money.
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