The Young Money Club

The definition of credit is the ability of a customer to obtain goods or services before payment, based on the trust that payment will be made in the future. In easier to understand terms, you can basically buy whatever you want now, and pay for it later.

The “catch”? Buying with credit often comes with additional interest added on by the lender. So that $1000 phone you just bought, might end up costing you a whole lot more.

Nowadays American consumers use credit to buy almost everything. A habit that has led many to spend more than they can afford and into thousands in high interest, credit card debt.

There’s a lot of scary aspects to credit that have led many young people to avoid it all together, but that can be almost as detrimental as overspending. Credit, like other forms of leverage, is just a tool, and whether you like it or not you’re going to need it.

Why You Need It

In simple terms, so businesses and other parties trust you. Nothing against you but how is anyone supposed to know if you’re telling the truth or not when you double pinky promise that you’ll pay them back?

How many times has a friend or family member told you they would pay you back or do something for you and then for whatever reason, not followed through? It happens to everyone, businesses included.

Your credit score is basically a grade on how trustworthy you are. It allows those lending to you to predict how likely you are to follow through with your obligations without getting to know you on a personal level.

To those who say credit is evil and should be avoided, I would say credit is a necessary evil. Nowadays you need credit to do A LOT. If you want to buy a house or a car, you’ll need good credit, if you want to rent an apartment or get a job, you’ll need good credit. So unless you plan on paying cash for everything you can pretty well bet on the fact that you’ll need good credit.

How to Build Credit

Before you do anything it’s best to run a free credit check with a site like Credit Karma to see where you stand. Oftentimes parents will open up credit cards in their children’s names to start building their credit early. You may be much better off than you think.

If you do a credit check and are less than pleased with the results there are a number of things you can do to start building your credit.

The Basics

First things first, if you don’t already have one, you should get a job. If not a job then a steady source of income. Your employment status won’t directly impact your credit but it is a major prerequisite to borrowing money which is a primary component in credit building.

The next thing you need to do is borrow money, either by taking out a loan or opening a credit card. If you’re not 18 yet, as soon as you hit that birthday you’ll be flooded with credit card invitations that you may want to take advantage of.

Getting your first credit account can be difficult without any credit history but there are some simple methods that you can use to get started. Retail credit cards (Target card, Walmart card, etc.), secured credit cards, and joint credit cards are all pretty easy to get approved for.

If you don’t think you’ll have enough self control to not spend too much your bank or credit union may be willing to give you small installment loan or credit builder loan, especially if it’s secured by a savings account.

This will only require you to make small payments towards the loan without the ability to spend on credit.

The last thing you need to do once you have an account in your name is to simply pay what you owe and wait. Once you begin making payments, your creditor will begin reporting your account history to one or all three of the major credit bureaus. This monthly reporting by your creditors is what lays the foundation for your credit report (a document other creditors use to determine if they will lend to you).

After about 6 months a FICO score can be determined, this is the 3 digit number you’ve likely seen associated with credit. It may be low at first but the longer you hold accounts and the more accounts you open (assuming you still use them responsibly) the stronger your credit will get.

Things to Avoid

You probably know the things to avoid if you want to maintain good credit, but in case you need a refresher here are a few.

Pay on time each month– the BIGGEST contributing factor to your credit score is your payment history. Even a single late payment can drop your score by a few points so it’s best to avoid being late at all costs.

Don’t borrow/spend too much– credit scores don’t just consider the amount of debt you have overall but also how your credit card balances compare to your credit limits. This also applies to loan balances compared to original loan amounts. It’s best to keep your spending well below your credit limit to avoid any issues.

Don’t apply for too many cards– every application you make adds an “inquiry” to your credit report. Depending on the type of inquiry they can drop your score my 10+ points. These drops are usually temporary but too many at the same time may cause a larger drop.

The Bottom Line

Credit can seem a little daunting at first, but at its core, it’s just another financial tool at your disposal. As long as you keep your spending in check and follow the tips outlined above, you should be just fine.

For more information on credit and additional do’s and don’ts, I recommend checking out Credit Karma. They have tons of articles on credit as well as reviews on all different types of cards and services.

If you want to learn more about managing your money feel free to check out The College Student’s Guide to Budgeting