Why Should I Care about My Credit?

It’s a fair question: “If I’m not planning to make a purchase on credit anytime soon, why should I care about my credit at all?” While it’s true that the most commonly known use of credit has to do with getting approved for a loan, there are other situations when credit can have a positive or negative impact (direct or indirect) on our lives.

  1. More employers are checking the credit of potential employeesMany employers check job applicants’ credit prior to making a hiring decision. This may seem unfair and irrelevant to many, but employers reason that since a person’s credit is indicative of their efforts to repay financial obligations, employers may use that information as an additional insight into the job applicant’s overall qualifications for employment. Also, it does seem reasonable to assume (and I’m sure research bears this out) that those with more negative credit “issues” on their reports will have to spend more work time dealing with personal issues. Hence, productivity actually DOES become an issue related to one’s credit. Finally, when the potential employer is in the finance, law enforcement or government sector, credit checks are even more common.
  2. Many landlords check a renter's credit prior to renting out spaceMany landlords, especially property management companies, will check potential renters’ credit scores. Since renting out their property involves the risk that the renter will not pay their obligations on time, a credit check shows which applicants have a history of on-time payments and which do not.
  3. Many auto insurance companies base a portion of their monthly premiums on the vehicle owner’s credit. While morally disputable for some, there is a clear correlation between an individual’s credit score the average size of claims that those with similar credit scores submit.
  4. A utilities account cannot be denied based upon one’s credit, but the company can certainly jack up the security deposit.

So, even if you’re not considering making a major purchase any time soon on credit, it is still a good idea to keep your credit report accurate and as positive as possible.

Todd

Todd Christensen
Director of Education
www.NationalFinancialEducationCenter.org
Facebook: MoneyDay2Day
Twitter: Day2DayMoney

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Top 3 Personal Finance Tips

November 2, 2010

I’ve answered the golden question many times in my classes and presentations: “What is the number one suggestion you have for financial success?” In all honesty, don’t we already live in a society that’s plenty busy and plenty complicated already? Why throw on our shoulders another five, ten or twenty financial skills to master?

Each time I answer the question, though, it’s within the context of a specific course topic, whether it’s budgeting, using credit wisely, or getting out and staying out of debt. Consequently, three different people in three different classes have heard me provide three different #1 suggestions. Today, I’ll combine my three top tips into one gloriously simple but profound blog:

  1. Write down your financial goals.It’s true that every journey starts with one step. I also love the expression, “An unwritten goal is just a dream.” However, I am not referring to massive, long-term goals. We can’t relate our day-to-day financial choices to goals that are more than 3 years away or that require more than probably $1,000. For large goals, you’ll need to break them down into monthly, if not weekly, savings required to reach the goal.Regardless of nature of your goal, you should write down the following: 1) What you want to achieve, purchase, or do with money, 2) How much money you project you will need all together, 3) What month and year you plan to achieve the goal, and 4) How much you’ll need to save each month/week/paycheck from now until the time you plan to reach the goal.
  2. Pay yourself first.Once you have suggestion #1 in place, suggestion #2 becomes both easier and more meaningful. Without #1 in place, #2 because a chore and will likely not last or produce any significant results.Set up an automated deposit, ideally directly from your paycheck but otherwise from your checking account, into your savings and investments accounts. Even if it’s just $5 per month or paycheck to start with, consistency is much more important than the amount you transfer to savings. Once the money is out of your checking account, you’ll be much more likely to live within your remaining income and will probably not even miss the money placed into savings.
  3. Pay ALL your bills ON TIME and IN FULL.So much time and energy is wasted in discussing what makes up good credit, what credit is, and what it’s used for, that many people overlook the simple fact that online payments every month is the simplest and most effective way to build a solid credit score.Before figuring out the best way to pay down debts or determining how many credit cards you should carry in order to have the best credit score, remember that credit is a reflection of your financial habits with regards to debts and accounts for which you are responsible. As such, your credit score is an indication of your credit reputation. Paying your bills on time as agreed is the surest way to protect your credit reputation. Defaulting on your payments or making a late payment is basically an indirect way of telling your creditor that paying that as you agreed is not very important to you. Consequently, they will tell other creditors of your actions (that’s what a credit report is), impacting your credit reputation.

    Although paying down debts and avoiding a “maxed out” card is nearly as important, no one can argue that on time payments (even they are just the minimum payments required by the creditor) make up the most influential portion of your credit score.

So, there you have them: my top three personal finance tips of all time. Hopefully they make your life, your parenting techniques, and your overall well being a bit easier and much less complicated.

If you have a personal finance tip or suggestion that you feel deserves a crack at the top 3, please let me know. Having taught hundreds of classes, written scores of articles, met with thousands of students, and read innumerable studies and opinions on the subject of personal finance, the one thing I know and accept is that there are always better ways to approach things. What’s yours!

Todd Christensen
Director of Education
www.NationalFinancialEducationCenter.org
Facebook: MoneyDay2Day
Twitter: Day2DayMoney

Reality Check-Credit is Used for More than Just Loans

September 22, 2010

Cut credit cards from your budget

Put foot down on credit cards

The titles of articles such as these are clever, intriguing and seemingly sensible, so why do I have a problem with financial experts (even if he or she is nationally recognized) who preach total abstinence from credit cards across the board?

At a class I taught this past week for individuals going through bankruptcy, I fielded a question that touches upon this very subject. A couple attending the class had been pushed into bankruptcy for several reasons, some of which were somewhat out of their control and others which were within their control. To get a grip on those issues within their control, they had decided to pay $100 to take a financial education course at their church. The creator of these classes preaches life without credit cards.

National Financial Education Center Explains Ups and Downs of Going Cash OnlyAt first glance, the concept seems completely financially responsible: get rid of credit cards, especially if they have been a past temptation to overspend and live above one’s means. So how do you answer someone, like the couple in my class who accepted that principle but are also hoping to purchase a home in the next couple of years, who asks me, “so how can we build our credit without credit cards?”

You see, they want to buy a home in the next few years, and they realize that they’re going to need a decent credit rating in order to qualify for an affordable mortgage. So I ask again, how can they build their credit without credit cards? After all, FICO estimates that about 50,000,000 adults in the US don’t have enough information on their credit reports to generate a credit score.

Here’s my answer, without giving an oversimplified “yes” or “no” answer: you can build your credit rating without credit cards, but you must remember that your credit score is based upon credit-related information on your credit report, and your credit report only contains information relevant to your credit usage and debts. Your credit is NOT based upon your income, your checking or savings account balances, or your debit card usage.

In other words, if you don’t use credit, you won’t have a credit history. I’m sorry to say it, but it’s true. You cannot build credit without using credit in some form.

Here are the types of credit that exist:

  1. National Financial Education Center Explains Ups and Downs of Going Cash OnlyRevolving Credit: Accounts like credit cards that allow you to make charges, pay some off each month, make more charges, etc. These are the most influential types of credit accounts on your credit report.
  2. Installment Credit: Accounts with fixed pay-off dates and generally fixed monthly payments, such as car loans and student loans.
  3. Mortgage Credit: Accounts that look like installment loans but that are tied to real estate.
  4. Home Equity Credit: Accounts that function like revolving lines of credit but  are tied to real estate, like mortgage credit.
  5. Service Credit: Accounts for services such as electricity, gas, or other utilities where weNational Financial Education Center Explains Ups and Downs of Going Cash Onlyreceive the service and are then billed for our usage. Note: phone accounts that are paid in advance are not considered service credit accounts. Also, most service credit accounts are not automatically reported to the credit bureaus that keep track of your credit history.

That’s it! If you don’t have any of these accounts listed on your credit report, you have “no file.” That means that FICO can’t find enough information to generate a standard credit score for you.

You have two options:

  1. Build your credit report wisely, starting with retail (think department stores), gas, or tire store cards or lines of credit that are generally easier to qualify for. However, using credit wisely means you pay off any balance IN FULL EVERY MONTH. After a period of time (perhaps 12 months or so), you might consider applying for a major credit card through your bank or credit union. If you’re tempted to use the card inappropriately (not paying it off in full every month), then cut it up.
  2. Ask your potential lender if they subscribe to the FICO Expanded Score. FICO is able to create a “credit score” on a large percentage of those with no traditional FICO score by accessing information on bank accounts, purchase payment plans, and property and public records. However, you will likely find it much more difficult (if not impossible) to qualify for a mortgage loan through most lenders based solely upon the Expanded FICO.

In the end, credit is about personal financial responsibility. Living without credit may be the financially responsible thing to do. However, it leaves no record or proof for potential lenders to convince them that you are likely to repay their loan to you.

And I haven’t even mentioned yet (since each would be a topic for another day) that your credit report and score are used for various reasons other than just qualifying for a loan. Here are some of the more prominent among those who are using your credit score to make decisions:

  • Many auto, home and life insurance companies (your score affects your premium)
  • Property management companies and many landlords
  • More and more employers (during the hiring process)
  • Utility companies (determining your security deposit)
  • Cell phone companies

So while I am, in theory, a fan of the “credit card-less” household, I don’t see it as practical for many if not most households. Since it takes two or three years of responsible credit usage to build a strong credit history, you may particularly want to focus on building your credit if you’re looking at buying a home, applying for a job, getting a cell phone account, or renting a home or apartment any time soon.

Otherwise, by all means, go cash only!

I may be opening up a can a worms, but I’d be happy to hear other opinions on this.

Todd Christensen
Director of Education
www.NationalFinancialEducationCenter.org
Facebook: MoneyDay2Day
Twitter: Day2DayMoney