CREDIT

What it is.

Little kids tend to get a few things wrong. Back in the early 90’s, my friend Katy and I were scootin’ around her living room, and she confessed to me that her mother had picked up a dead roach with her bare hands. My vocabulary was a bit wanting back in my early days; I had zero idea that homonyms were a thing. So, instead of being properly grossed out I was just puzzled. Who has bear hands? Did she put them on like mittens? Where’d she get them from? I’d never heard of anyone doing such a thing, but who was I to judge? Mulling it over, it started to seem like a pretty ingenious idea. I mean, you’d hardly notice you had a dead roach in your hand if you were wearing bear mitts.

It wasn’t until years later that I pieced it together.

Another childhood puzzle was this thing called the permanent record. I don’t know if kids still worry about it. I don’t know any kids. But I remember worrying about it. What was on it? Was it just my report cards? Did it say anything else? Did it only say bad things kids did or did it also say good things? More importantly, how could I get my hands on MY permanent record?

Well, I never managed to get my hands on it. I’m out of school now, but that doesn’t mean that my permanent record has been erased. (I know what permanent means.) It’s just full of other things too. Things like criminal activity, previous addresses, employment information, and credit history. And I can check on these and know just what’s on my record. No more mystery.

My credit report spills all the secrets of my credit history. It began fairly early; in high school my parents put me as an authorized user on one of their credit card accounts. In college I opened a handful of credit card accounts on my own. I’ve taken out student loans. I’ve taken out car loans. I haven’t had the courage to buy a house yet.

My credit history tells the story of all the times in my life I’ve said, “Yes, okay. If you give me the money now, I’ll pay you back later.” And my credit report reveals if I’ve been honest about that or not.

Why have it?

Illness, traffic, work, family… They’re all a little easier to deal with if you know you’re covered – if you have the ability to pay for insurance or tires or a trip to Pictured Rocks in Michigan with your little brother for an extra-long weekend before you turn 30.

And there’s nothing quite like money—or, I guess, not having quite enough money—to add an extra level of stress onto this thing we call life.

A healthy credit history, however, allows you to make the bigger purchases. And it costs less to borrow the money to make those purchases if you have excellent credit.

Even if you hate debt and hate owing money on something, it’s unlikely that you’re in the position to pay cash for absolutely everything. One day I’ll bite the bullet and buy a home, but I can’t imagine paying cash for it. I’m not even going to calculate how long that would take to save. Like the majority of homeowners out there, I’ll apply for a mortgage. My credit history will tell the bank whether I’m good for it or not. The better my credit history, the less risky I seem, so the less I’ll have to cough up in interest payments each month.

How to make it happen.

Pull your credit report. You can get three free credit reports each year from Experian, Equifax and TransUnion. These are three credit reporting agencies. You can get a report from just one of the agencies or two or all three. Whatever you prefer. Once you’ve gotten it, look at it—all of it. It may not be exciting, but it also shouldn’t take very long. Maybe five to ten minutes.

If you’re just starting out, you may not have a history. You should still get a report. It’s a good idea to check to make sure you haven’t been the victim of identity theft.

Your report will show all the names associated with your credit. If one of these isn’t you, you’re probably going to want to find out who that person is and why they’re affecting YOUR credit. It’ll also show any previous names. I recently had to dispute this part of my own credit history. Sure, Susan McAdory was listed as a name on there, but it also said I was previously known as Susan Mcdory. So, I clicked a button on the report—I was viewing it online—and submitted it for dispute. Also listed are any previous addresses associated with your credit. Doublecheck that you’ve lived where it says you’ve lived.

If you have credit history already—for example, if you’ve opened a credit card or taken out a car loan—each account you’ve opened will be listed on the report. It will also list a variety of information on the balances, the dates the account was opened and closed and the status of the account. All of these are important pieces of information because they are all factors in determining your credit score. In general, you don’t want to carry high balances of credit card debt. The longer the account has been open, the better. You definitely want to make payments on time.

The Federal Reserve Bank of St. Louis explains it very clearly in this educational video from the Continuing Feducation Video Series (FED-ucation!!!):

How to build it.

If you don’t have any credit history whatsoever, then, hey, you have a clean slate. Of course, since you have absolutely no history, lenders don’t know for sure if you’re a good bet, which means you may not qualify for the credit card with the lowest rates or no annual fee or points for days. You may have to take what you can get. And if you have bad credit, you’ll be less likely to qualify for those sought after cards. Don’t lose hope. You have options. You can apply for a prepaid card and use this to build credit. You can apply for a card and make payments on time and maintain a low balance and then re-negotiate with the issuer later on for lower rates after you’ve established better credit.

You can also build credit by taking out a loan – hopefully with a low interest rate – and do the same thing. Make your monthly payments on time.

The key thing to remember, though, is not to spend more than you earn. If you start down that path, you’re just digging a hole you’ll have to climb out of.

How to repair it.

If you pull your credit history and notice a lot of negatives, it’s time to turn the ship around. Don’t just let it keep sinking. Maybe you see that there’s an account you’ve forgotten about – say an old phone bill that you thought you’d shut down and then let sit in the negatives. Pay it off as soon you can. If it seems impossible, call the company to negotiate. Make installment payments. If you are carrying a large balance on a credit card account, make those required monthly payments on time. Try to pay extra each month if you can. Make your student loan payments on time. Make your car payments on time. Make your mortgage payments on time. You get the point. You just need to let time—and the consistency of your payments—work for you.

It’s crucial to show that you aren’t going to continue to sink further into debt. You want to show that your word is good. You said you’d pay, so you will.

How to maintain it.

Once you’ve proven yourself a trustworthy lendee and built up a good credit history, maybe even an excellent credit history, you’ll want to stay in this sweet spot. Lenders offer you prime interest rates on debt with amazing terms. That’s not something to let fall by the wayside. Keep your credit balances low. Don’t carry high balances. Make your monthly payments. Don’t close credit accounts just because you’re not using them. The longer an account has been open, the better. If you have good rates and no annual fee, why close that account? And if you don’t have good rates, you can probably negotiate lower ones by giving your lender a call. After ten years, credit—good and bad—rolls off your report. So it’s important to maintain some sort of credit activity.

How to protect it.

Look at your account activity. There’s really no excuse not to know what’s happening in your checking and credit card accounts. All of your transactions can be viewed online. Look at them. Get an app and categorize them. Know where your money is going. If something looks suspicious, investigate it. The sooner, the better. If you want to go the extra mile, set up alerts on your accounts to send you a text or an email if a charge is made in excess of a certain amount.

Look at your credit report at least once a year. Remember, you can get one every 365 (or 366 for leap years) from each of the credit agencies. This means you can request one every year—say on your birthday—from all three. Or, you can stagger them. Maybe get the one from Experian on Valentine’s Day, Equifax on Independence Day, and TransUnion on Halloween. Your choice. Review your report. Does everything check out? If not, you can put in a dispute online or over the phone.

If you’ve been the victim of identity theft in the past—or if you’re so worried you will be that you’re losing sleep—put a credit freeze on yourself. You can do this through each of the credit agencies. Sometimes there’s a fee, depending on which state you live in (unless you’ve been the victim of identity theft). A credit freeze requires that each time a request is made on your history—be it to open a credit card account or take out a loan, etc.—that the credit agency will give you a call and require you to provide them with a long PIN number to prove that you authorized the pull on your credit. This isn’t something everyone wants or needs. It can be annoying and it’s not a four digit PIN. But, it can be useful.

paying off debt

Last week I paid off the last of my student loans. I did not have a lot to start with, so finally getting rid of them after only 4 years was not a difficult task.

Paying off debt can be a huge emotional relief. It seems like it would be a financially savvy move too - but that is not always the case. Let's look at when it makes sense, and when it does not. The general rule of thumb is that you should pay off debt when the interest rate is as high as, or higher than what you could earn on that money elsewhere. For a point of reference, I generally look at long term investments earning 6% or more (over 10-20 year periods).

Mortgages are the biggest debts Americans owe. These are very long term debts and money is cheap right now! With my mortgage at 3.5% I am in no hurry to pay that off, as I expect my long term investments to earn a premium over that. However, even at these low rates, there are special cases. There are various thresholds which may benefit the homeowner to be under:

• Paying a little extra off before you refinance may help put you under a threshold to get a better rate. Namely, prime rate mortgages generally require 20% equity or more, so if you owe $121,000 on a $150,000 home, paying an extra $1,000 might translate into big savings on interest. 
• Certain loans may have Mortgage Insurance Payments which go away once you hit a certain threshold. For instance, FHA loans typically require 22% equity before the mortgage insurance payment goes away. The insurance payment will vary with the program, so check with your mortgage servicer to see where your threshold is.
• Refinancing. If interest rates are lower than when you got your mortgage, look into refinancing. Though the monthly payment may be higher, a shorter term loan may have a lower interest rate, and the faster amortization will mean you pay less interest overall.

Credit Card debt is a big problem. While this is some of the most flexible debt you can obtain, you pay dearly for that flexibility.

• Check your interest rate. Rates on credit cards are typically variable and if you carry a balance, will probably only rise. Average APR right now is over 15%, though cards with rates from 20-30% are not uncommon. With an interest rate of 18%, every $66 you owe translates to about a dollar of interest a month - that's money you never benefited from.
• Many cards come with an introductory 0% APR. If you need to, take advantage of this, but you will want to pay down the balance aggressively before the interest rate shows up.
• Lower your total credit utilization. This is a question of thresholds again. Your utilization ratio is your total balance outstanding to your total credit available. This total is from all of the cards in your name - 50% would mean that the sum of all of your balances is half of the sum of all of your credit limits. The recommendation is to keep the ratio under 30%, but the lower you go, the better. This accounts for almost a third of your FICO credit score, so it may be worthwhile to pay down even a low or 0% interest card if you need your credit score to drift up.

Student loans are in the headlines in very scary ways lately. Rising use of student loans has been in a vicious cycle of being needed to pay ever higher tuition while also making it easier to bid up the cost of said tuition. In general, student loans are a great idea - it is some of the easiest debt you can get, and you expect to earn enough to comfortably pay for it when you graduate. The problem now is that people are not getting payed quite what they expected. Government program loans are typically fixed rate and for a 10 year term while private loans are have variable rate options and different terms. The lowest rates are for undergraduate loans, but graduate and parent loans are a much higher rate that may usefully be paid off early. There are repayment programs available to help ease the cost of the loans when you first start paying them back.

Debt can be intimidating, but that doesn't mean it can't be useful as well. The decision to pay off debt is just as important to consider carefully as the decision to take the debt on in the first place.