Personal Finance 101: A Primer on Credit
BY: Brent Landrum
Across all types of media – from the internet, to the radio, and everywhere in between – consumers are flooded with advertisements for credit-monitoring and credit-improvement services. And while some of that information can be beneficial, it is important to first understand the basics of a credit score. From there, you can set yourself up for success and, hopefully, save money over time.
What Is a Credit Score and When Is It Used?
A credit score is a number used to determine a consumer’s credit worthiness, based on their payment and loan history. It is common for young adults not to have a score, as they may not have enough of a history for the three credit bureaus – Equifax, TransUnion, and Experian – to create a report. Financial institutions, credit card companies, and car dealerships are among those that may use your number to determine how they can assist you.
Credit scores fall into five different ranking categories:
- Excellent: Scores between 800–850
- Very Good: 740–799
- Good: 670–739
- Fair: 580–669
- Poor: 300–579
The stronger your credit score, the more benefits you're likely to receive. Interest rates on loans and credit cards are often determined based on your score. If yours is high, you could receive a lower rate that would, in turn, save you money over time.
What Impacts Your Credit?
Several factors determine the strength of your credit score, with various types of companies – including institutions that hold your loans, utilities companies, and cell phone providers – reporting activity to the three credit bureaus.
There are four major components that impact your credit score:
- Payment history
- Total balances on debts owed
- Public records
- Number of credit inquiries
While all are equally important, it’s good to know how long items can affect your score. Delinquencies, such as late payments or no payments, can remain on your report for seven years. Bankruptcies and items labeled as collections will also negatively impact you for seven years, if not taken care of.
Additionally, it’s beneficial for you to understand that, any time a potential creditor pulls your score, it will show on the report for two years. This piece has less of an impact, but is still good to know.
How Do You Build Credit?
No matter your age, there are ways to build and/or improve your credit score while also being financially responsible. You never want to overextend yourself and live outside your means. Understand your monthly budget before you commit to new lines of credit. Once you have a handle on your financial situation, these four tips can help to improve your score:
- Pay bills on time. Know due dates and what you need to pay, so you have positive payment history.
- Open a credit card. Start with a low limit card and use it for monthly essentials, like groceries. When you receive the bill each month, pay off the full balance.
- Keep loan balances low. Pay what is needed to strengthen your creditworthiness.
- Limit credit inquiries. Before applying for several loan options, do your research to understand the one that is best for you. Then, submit your application and keep those credit pulls to a minimum.
Now you have the knowledge you need to succeed.
Consumers are entitled to one free credit report annually from each of the three bureaus. Request a report to see how your score ranks and use these tools to strengthen your creditworthiness. And don’t forget, your local banker is always here to answer any questions you might have!