Credit Basics 101
What is a credit score?
Your credit score is a number that summarizes your credit report and how well you repay your debt. Banks/credit lenders are the primary reason for credit scores because it is a quicker way to see if someone will be responsible on paying back their debts. Credit scores can vary from bureau to bureau depending on who the lender reports to or who they report to first.
FICO is a type of credit score that 90% of lenders use. The FICO number is still calculated using information from credit reports. Like the credit score, it still shows lenders how likely a borrower is to repay their debts and how much of a risk a borrower might be. More information on FICO: https://www.myfico.com/credit-education/credit-scores
Credit reports are different from credit scores. Credit reports show the payment history, how long the borrower has had each line of credit, the types of credit, credit limits, how much of the credit limits the borrower uses, how much total debt a borrower is in, and hard inquiries on the borrowers credit report. The score is just a summary of all of those things. It is more important to check the credit reports to make sure information is reported correctly. The three credit reporting bureaus are: Experian, Equifax, and TransUnion. A borrower can check their credit report once a year for each of these bureaus without a hard inquiry. It is best to check one of these once a quarter.
Find credit reports on annualcreditreport.com
How do I build credit?
A good way to start building credit is through a credit card. Borrowers can only build good credit if they are using it responsibly. Credit cards can build credit if full payments are made on time each month. It will show the three bureaus that the borrower is responsible with their debt obligations.
Putting regular expenses on a credit card is a good first step to building credit. This will ensure the borrower isn’t using the credit card just because they have it. For example, you can choose to put utility bills or groceries/gas purchases on the card. The next step in building credit is to keep the balance low. Unlike a debit card, the balance in the bank won’t change when purchases are made. Only when the balance is paid, does the bank balance change to reflect those purchases. It is easy to get carried away with purchasing when there is not an instant bank account balance change.
Finally, the longer the same line of credit is in use, the more responsible a borrower looks to lenders. It is better to have one credit card open for a longer period of time rather than having multiple cards for shorter periods of time. Length of credit is 15% of the FICO score so it’s a good idea to not open and close lines of credit regularly.
Another good way to build credit is through student loans. Student loans are repaid post-graduation so the borrower’s credit won’t improve until several months after full, on time payments are made. Meaning, the student loans aren’t necessarily building your credit while you’re in school. Generally, most loan repayment plans are over a 10 year period, while some are longer depending on the borrowers’ income and other debts. It’s a good idea to never miss your student loan payments because that is mostly what the credit bureaus are tracking.
Other Credit Card Tips
Tip : Look for low APR (Annual Percentage Rate) and low annual fees when comparing credit cards. Nerd Wallet is a great (free!) online tool you can use to compare credit cards based on your needs.
Tip: If you’re going to put a large purchase on a credit card, have a plan in place to pay it off quickly.
Tip: Always pay the card off in full at the end of the month!
Tip: Leave the card at home if you’ll be tempting to use it during shopping trips to keep overspending at bay.
Written by: Lillie Perry, Peer Mentor