In short, credit is debt. Perhaps we use the term “credit” when it is extended to us by another, whereas “debt” is then what we’re left holding. Credit should be used as a tool to help us meet obligations or needs that we don’t yet have the capacity to pay for outright – but in theory, we can repay it in a mutually agreed upon manner – either all at once or on a schedule of set payments. Debt lingers with us, perhaps it was due to a catastrophe (unexpected medical bills), or simply it was something that accumulated because we lived beyond our means.
Many have espoused the evils of debt, either for technical or moral reasons. However, in this section, we consider credit as a helpful, but potentially dangerous tool. Just like a sharp knife, it can make short work of getting your veggies prepped for cooking. But a sharp knife can also cut you badly and leave lasting scars. Thus, it’s important to learn how to use credit appropriately and safely, and as your skills and comfort increase, so too will you be given more to use responsibly.
Credit builder loans – Programs that report credit activity to the three credit bureaus – Equifax, TransUnion, and Experian – in order to improve your credit standing, either through loans on pre-savings or save-as-you-go. Secured credit cards, where you put $300 up front as collateral, and then then you get a credit card with a $300 limit, fall into this category.
Unsecured Credit Cards – Once you’ve shown that you’re responsible and can pay back loans or pay for services — on time and in full — then you can get an unsecured credit card. There’s no need to put money up front as collateral, you can get a MUCH higher limit, and there are a lot of added perks (incentives), such as cash back based on a percentage of what you spent, or airline miles. Generally, you want NO annual fee, a 30-day grace period between the end of the billing cycle when your payment is due and when the charges start to rack up, and low APR interest on any balances you carry (which, ideally you wouldn’t, right?). Also, credit card companies should offer protection against fraudulent use, so you’re not liable to pay when someone else gets a hold of your info. (This is the main reason to use a credit card, rather than debit card, which doesn’t offer the same level of protection and buffer against actually withdrawing cash from your account.)
Your Credit Report and Score – This technically isn’t a “financial product” that you would shop around for. But, because it’s so crucial to the trajectory of your financial state, and a measurement of it, I’m including it. There are two elements here and it’s best not to confuse them: the Report and the Score.
• The Report is a file of your history with credit. It has a TON of information on you and sometimes has errors, so you’ll want to check it periodically. You are permitted by law to receive 1 free report each year from each of the three credit bureaus, again: Equifax, TransUnion, and Experian. (Some people like to access them all at once to get the full picture and compare – since there will be some differences. Or, accessing 1 every 4 months can give you a rolling snap-shot of how things are looking and monitor for errors.) You access those free reports at AnnualCreditReport.com. Information on understanding credit reports, correcting errors, and improving your credit is available at the Consumer Financial Protection Bureau and at the respective credit bureau website.
• The Score is NOT free. This is a number – different for each credit bureau, since they have their own proprietary scale and way of calculating it. Generally speaking, it goes from 350-ish to 850-ish, with a higher score indicating better credit worthiness and lower costs for you. (The lower your score, the higher the interest rate lenders are going to charge you with the fear that you won’t pay them back, and thus the more it costs you to pay back a loan.) Many financial institutions are providing you access to this number, or a good simulation of it, so you can see how things stand for yourself, without actually paying for it. Check the supplementary services offered by your bank, credit union, or credit card – it’s often listed as a FICO score, or VantageScore. See also CreditKarma.com or the CreditWise App by Capital One.
In general, the score is based upon the following factors:
• Your pay-back history: is it consistently paid in full and on time, not just “minimum” amounts?
• Number and variety of loan accounts you have open: do you have a mortgage and student loans, or just a credit card?
• Percentage of your credit you’re using, compared to how much is offered: less than 30% used is best, maxing out credit cards is bad.
• Total length of credit history: keep the oldest card open and use it occasionally.
In the end, you can consider your credit score a judgement of your character and trustworthiness. Will you pay back what you owe? Are you responsible? If life hits the fan and you need some flexibility on the part of the lending institution, are you up front with them, communicating, and trying to find a way to continue to honor the agreement? Or are you just hiding from them? (Hiding is a BAD approach.) This is part of the reason why I spend so much time on principles and virtues earlier in this book. Your daily habits and integrity will have a huge affect on your ability to generate wealth for yourself, family, and community, rather than letting it be siphoned off by large corporations.
This book is a work in progress and we’ll all benefit from your input and collaboration. In the “Leave a Reply” below, please post examples, comments, questions, and needed edits. By posting, you grant permission for inclusion of any content to become part of the book, now or in the future, in whatever form it may take. I’ll give attributions to the extent possible. I know sharing about our financial lives can be sensitive, so if you want to share anonymously, please use the contact form instead and I’ll honor your request.