Although “credit” can sound like a dirty word, it is important to establish good credit as early as you can. Knowing your credit score is a valuable tool for tracking your money habits and preparing for large purchases in the future. Having a good credit score will help you look more financially trustworthy to potential lenders (often necessary for student loans, house mortgages, business loans, credit limits, etc.). While relying too heavily on credit can lead to massive debt, there are some positive benefits of credit to be recognized.
According to Credit.com, credit scores range from around 300-850. To understand how your score is comprised, see the breakdown below:
- Payment History (accounts for 35% of most scores)
- Credit Utilization (accounts for 30% of most scores)
- Length of Credit History (accounts for 15% of most scores)
- Mix of Accounts (accounts for 10% of most scores)
- New Credit Inquiries (accounts for 10% of most scores)
Certain credit cards are now offering credit scores free with monthly statements (e.g. Capital One, Discover, Bank of America). You can also sign up with third-party sites like WalletHub.com or CreditKarma.com to view your scores for no charge, so there’s no excuse not to know your score and make a game-plan to improve it.
Contrary to what some may think, scores and reports are different. Your credit report informs your credit score. Credit reports are generated by third-party (non-governmental) agencies; the three major agencies include Experian, Equifax, and TransUnion. You can request a free report from each of these agencies every 12 months by visiting AnnualCreditReport.com, while FreeCreditReport.com (an entity of Experian) offers free reports every 30 days. Although some sites like WalletHub.com offer reports and scores together, it’s a good idea to get all three reports every year to see a detailed list of information including: personal information, public records, credit and loan account information, and more.
A debit card from your bank will not add any value to your credit score. One of the first ways to start building credit is to open a credit card with your bank or some other company that offers $0 annual fees and a low APR (annual percentage rate). Look for cards with cash back or other incentive programs. 3% back on groceries may not seem like a lot, but everything adds up and you could add an additional $25-$75 dollars back into your bank account every year just by making regular purchases. Treat this credit card like a debit card (never spending more than you have in your account and paying the bill in full when payments are due) and your score will quickly get stronger.
Another way to boost your score is by opening store credit cards. Especially if you opt for cards that can only be used in the store for which you sign up (instead of opting for the card that can be used anywhere – some stores partner with MasterCard or Visa to offer enticing point systems for customers), you will increase your mix of accounts and length of credit history. Continue to use these cards like debit cards. They often have higher interest rates, so you don’t want to get stuck paying interest on a bill.
If you must buy something with credit that you do not have the funds to afford at the time, make a plan for how you will pay off the debt. If you know you have a looming charge on a credit card, review your budget and allocate as much funds to pay off your bill as quickly as possible. This will keep you from spiraling into debt by forgetting how much you currently owe and being unprepared to pay it off before interest rates get the better of you and your finances.
There’s an upside to those loans! If you pay your loans in full and on time, it will increase your credit score.
However, defaulting on your loan payments could have lasting repercussions. It will damage your credit history and may impact future employment opportunities. Try to contact your lenders and ask for a deferment if you don’t think you’ll be able to make your payments on time. This will keep you from negatively impacting your credit score.