The Credit Card Conundrum

Credit, mainly in the form of credit cards, can be seen as someone’s worst enemy, or biggest ally. For those who do not understand the purpose of credit, the penalties for misuse or uninformed use could be high. And, penalties are not just in the form of high interest rates but also in dings to your credit score. For those who understand the purpose and privilege of credit, credit can be an ally in achieving certain goals, like buying a car, home, or even landing a new job.

So, what is credit anyway and why should you care? Credit is an indication, or measure, of the type of borrower you are and your ability to pay back debt. Much like the grades you receive in school are a measure of what type of student you are and the potential that you have, credit and your credit score are a measure of what type of borrower you are.Your credit score is reported on a credit report.

What is a credit report? A credit report is a history of all of your borrowing activity. This, of course, includes your credit card activity but also payments on your home mortgage, car loan, student loans, and even unpaid utility or gym bills. The history shown on your credit report will give potential lenders an idea of the type of borrower you are, your credit worthiness.

How your credit score is determined still remains a mystery to most, but there are a few things that are generally known to affect your credit score, including:

• Payment History
• Amounts you owe on various loans (Car, student, home, etc.)
• How much credit history you have (How many loans do you have or have you had.)
• Potential lenders checking your credit (Potential lenders can see how many other potential lenders have looked into your credit score in recent months.)
• Any recently opened credit accounts

As we mentioned, credit is pretty important if you ever want to buy a home, a car, or anything that you do not have enough cash to pay for the item in full. Also, credit is often checked by potential employers and landlords because it is a measure of responsibility and discipline. Therefore, actually establishing some sort of credit so that you have a credit score is as important as making sure that you do not overuse or misuse credit.

This is the credit card conundrum – you do not want to borrow too much so that you are unable to repay the amounts borrowed in a reasonable amount of time. But, you do not want to borrow nothing so that you have no history of your credit worthiness.Often times, people are so afraid of “messing up” their credit score or misusing credit that they refuse to apply for credit cards and pay for everything in cash. Generally speaking, this is not a bad thing because at least they are living within their means. But, if your credit history is an indication of the type of borrower you are and you have never borrowed anything, you may run into problems if you want to buy a bigger ticket item, like a car or home, because you have no history of your ability to pay.

So, how do you find that balance?

• To start, you can apply for a credit card for purchases where you can pay off the balance either in full or within 2-3 months. Remember: credit is a privilege and you should only obtain credit if you are disciplined enough to use it only occasionally and when you actually have the money to pay for the item. Keep in mind that, if you have no credit score, the interest rate you pay on the items charged on the credit card may be higher because your credit worthiness has not been proven. For this reason, it is so important that you pay off the balance within a month or two.
• If you are in school, you can think about getting a student loan for tuition and books to at least establish some credit.
• If you are living with roommates, you can think about putting some of the utility bills in your name. However, you should only do this if you trust your roommates to help you pay all the bills in time.

Most importantly, remember that credit is a privilege and it is one that can be easily taken away by lenders refusing to lend money to you. So, use it  purposefully and responsibly and make it your ally, not your enemy.