So you have heard about credit, but what exactly is it? Credit is known as an agreement to provide goods and services in exchange for future payments with interest. The goal of making purchases on credit is to increase your "credit score", which can be compared to your level of responsibility and dependability to pay back the money borrowed by using credit. Sometimes it is nice to buy something now and pay for it later, but you need to understand that doing so you can increase your credit or you can increase your debt.
Credit Scores and Reporting
How do you know what your credit score is?
Everyone (yes, everyone!) should have an idea what their credit history looks like. Banks, lending institutions, insurance companies, landlords, and your future employer may look at your personal credit report to get an idea about your personal character. Do you want to see what they are looking at?
By law, you are entitled to a free copy of your credit report once every 12 months. To get a free credit report, go to Annual Credit Report. Stay away from sites that have you enroll in a credit monitoring service for a fee. Only AnnualCreditReport.com has been approved by the U.S. Treasury to provide your credit history for free.
So what exactly are they "reporting" about me?
- Identification and employment information: Your name, birth date, Social Security number, employer, and spouse’s name are noted routinely.
- Payment history: Your accounts with different creditors are listed, showing how much credit has been extended and whether you’ve paid on time. Related events, such as the referral of an overdue account to a collection agency, also are noted.
- Inquiries: Credit reporting companies must maintain a record of all creditors who have asked for your credit history within the past year, and a record of individuals or businesses that have asked for your credit history for employment purposes for the past two years.
- Public record information: Events that are a matter of public record, such as bankruptcies, foreclosures, or tax liens appears in your report
How long will negative information remain on my credit report?
- Public record: 7 years, but unpaid tax liens can remain indefinitely.
- Bankruptcies: Chapter 13 – 7 years, Chapter 7 – 10 years
- Foreclosures: 7 years
- Collections: About 7 years
Note that for all negative items, the older they are the less impact they are going to have on your score.
Credit Score (FICO score)
The credit score is a three digit number that helps to predict how credit worthy you are; that is, how likely it is that you will repay a loan and make the payments on time. It ranges from 300 to 850, and higher score is better.
The FICO score breaks down:
- Payment History (35%): Have you paid on time?
- Amounts Owed (30%): What is the ratio of total debt to available credit?
- Length of Credit History (15%): How long have you been using credit?
- New Credit (10%): Have you opened many new credit accounts in a short period?
- Types of Credit in Use (10%): What types of credit do you have? Only credit cards or mixture of other loans?
Where do I get a FICO score? Is it free?
Unfortunately, the answer is no. However, you can get an approximated credit score from Credit Karma and Credit Sesame for free with no strings attached! To learn more about FICO scores, see myFICO Understanding FICO Scores (pdf). Also see 9 Surprising Facts About Your Credit Score from US News and World Report.
Can you tell me more about credit cards?
A credit card is issued by a bank or lending intuition. It has a credit line or maximum amount that you can spend on the card. The card carries an interest rate on the money you spend, and an interest rate can range from 0% to 29% annually. You can avoid interest by paying the balance in FULL each month; otherwise, interest is added to the amount you owe.
Of all the money issues students face over their college careers, credit card usage continues to confuse students the most. According to student loan provider Sallie Mae:
- 23% of college students had obtained a credit card prior to enrolling in college
- 43% of college students stated that they obtained a credit card during their first year in college
- The average college student has 4.6 credit cards
- Average credit card debt upon graduation is $4,100
Here are some good reasons to use credit cards
- To start and build credit history
- Emergency funding for repairs or medical needs
- Earn cash back or other rewards
- Offers a vehicle to track expenses each month
Things to watch out for when using credit cards
- Easier to overspend compared to only spending the cash in your pocket
- Carrying a balance (not paying the full balance each month) can add considerable interest charges
- Can damage credit history if extended above the maximum limit, paid late, or not paid at all.
- Getting your card stolen can cause a lot of damage to your identity and finances.
So how do I pick the best credit card?
- Annual fee: No annual fee
- Credit limit: Not important at all when you apply your first credit card
- APR (Annual Percentage Rate): It is an interest rate, so as low as possible.
- 0% introductory APR: Pay attention when it expires. It might go up to 26% APR afterwards.
- Grace period (the period of time you don’t pay interest on your purchase): It runs from the end of a billing cycle to the next payment due date.
- Do not apply for several credit cards at the same time. This will harm your credit score.
- Apply for a student credit card: Student credit cards are designed for students with no or little credit history, so they are perfect for your first credit card.
- Useful website to compare credit cards
There are several advantages to using a credit card responsibly but let us be clear: If you cannot manage your money, are behind on your bills or do not pay bills on time, or simply do not want the added responsibility of tracking your purchases, DO NOT USE A CREDIT CARD. Stick to cash!
How can Student Money Management Services help?
SMMS can help educate KU students about credit card management, proper uses, and possible pitfalls.