Your credit can be extremely beneficial if you use it wisely, but if you use it incorrectly you might find yourself in financial trouble. Used correctly, credit can help you increase your spending power and make your business dealings far more effective. However, if you don’t have a full understanding of how the credit system works, you could wind up with a damaged credit score.
You might be surprised to learn that our economy runs on borrowing. A large number of individuals and businesses need access to things that they cannot pay for in one lump sum. The system of credit provides a way obtain those things without paying for them upfront, allowing them the time and freedom to get the required funds and pay for it in the future.
What Do I Need Credit For?
For most Americans, loans are a required part of their budget. With a loan you can pay for your education (allowing you to earn more money later), buy property, or start a business. If you find yourself in an emergency, credit can be invaluable. In an unexpected situation where you require something you can’t pay for right away, a loan may very well come to your rescue.
Another important aspect to your personal credit is consumer credit reporting. The three main credit reporting agencies are Experian, TransUnion, and Equifax. These companies collect patterns of financial behavior on you and every individual. Over time they observe your habits – do you pay your bills on time, have you ever missed a payment, or do you pay them at all? They record your habits and use a point system to calculate a single number called your credit score.
Your credit score is what lenders use to decide whether lending to you is worth the risk. The more credit information they have, the better assessment the lender can make – the less credit information they have, the less they know about you, which makes your a riskier borrower.
Good Credit: It’s Important
It’s simple: the higher your credit score is, the easier it is to secure a loan. If your credit score is above 700 and you have a lengthy credit history, then lender will trust you. You’ll get more of the loans you apply for and end up with better interest rates. If your credit score is lower than that, lenders may turn you down, or offer you much higher rates as a way of hedging against your risk.
If you have the option of paying cash for large purchases such as a home, college tuition, or a vehicle, you may wonder: why borrow at all? No matter how much cash reserves you have, credit still matters. Your credit score is used for more than just loans – most landlords use it to determine whether you are a responsible renter. You may also need one to get a contract with a cell phone company. If you have a credit score that indicates you are low risk, finding a place to live and getting a phone will be much easier.
Another important factor: in some states, employers can request their own, specialized version of your credit report. If they don’t like what they see, then it could harm your chances of getting a job.
So What’s The Downside?
Here’s the thing: if managed well, credit can make your life much easier in the form of better access to the goods and services you need. But if you’re irresponsible with your credit then it can work against you. You might not be able to rent an apartment, or buy a phone. You might lose out on a job opportunity. You may be required to pay a large deposit for a home or car, and the interest rates you are offered on any loan you do get will be much higher.
Don’t forget: borrowing has its own costs in the form of interest rates and fees. If you don’t pay your loans on time there may be penalties. Another risk is borrowing more than you can pay back – late payments along with the interest, fees and penalties they accrue can get out of control and leave you with an unmanageable amount of debt. If you’re not careful, in extreme situations you might even have to declare bankruptcy - this happens to people all the time (and they never planned on it).
Only take out loans you can repay, and use your credit for the right things: education, transportation, a mortgage, or starting a business. These are all things that can help you build your net worth. Try not to use credit for luxury items you simply want, such as expensive clothes, fancy restaurants, or vacations.
The US economy is based on credit, and the better your credit is, the easier it’ll be to get by. Without a healthy credit history you might not be able to start a business, get an education, or buy a home. Credit is not the answer to everything, but when used with wisdom, it can help you get ahead in life.