Cents and Sensibility

The Importance of Credit Cards and Your Credit History (Mostly the Latter)

Last week, I tried to illustrate the importance of having a credit card. Judging from some of the comments, I’m not sure I succeeded. In light of recent economic distress, credit cards have been characterized as bad and dangerous thing that can get people in big financial trouble.

The truth is that misuse of credit cards can absoloutely put you in a bad state. But out of pure concern for those of you who don’t have a card yet, let me just say…

YOU NEED A CREDIT CARD. And it has very little to do with having the ability to spend money you don’t have. It has everything to do with your credit history and your ability to secure a loan when you need it. Even if you don’t plan on taking out a loan ever in your life (good luck with that) some employers are doing background checks that include your credit report. You’ll also need a credit check to rent an apartment. And how many New Girl fans remember that time Nick tried buying a cell phone? You need a good credit history. The fastest way to get one is by having a credit card.

Let Me Put It In Clearer, Harsher Terms

To anyone that looks at your creditworthiness, you are just a number. Specifically, you are a number between 300-850 (your FICO score). They don’t know how nice you are, how cool you are or how much you pinky promise to pay them back. All they have is your credit history, which reflects your ability to make payments, what kind of payments you’ve been able to handle, how many times you’ve asked for credit, how much debt you have and how long you’ve been able to maintain credit. If you’ve never opened up a line of credit of any kind, they have no information to assess and you a risk.

As Carolyn Bigda wrote in a recent Chicago Tribune article:

“Your credit record reflects how well you’ve paid bills and whether you’ll be financially responsible in the future. Landlords, lenders and utilities all look at credit before opening new accounts. And if you don’t have a solid record, few of these entities will be eager to do business with you.”

So if you don’t want to screw over future-you, start building a good credit history.

How To Use a Credit Card to Build a Good Credit History

Step 1: Get a Credit Card
This is the most complicated step because there are so many options. Additionally, too many new credit inquiries (requests for a line of credit) can hurt your credit score, so you have to do this wisely.

  • Start with a bank card because they tend to have lower interest rates. You may have an easier time getting a card from a bank where you already have a checking or savings account.
  • If a bank card fails you, try a retail card. Retail cards are normally to be avoided because their interest rates are so high. But they are easier to acquire than bank cards. Get a card from someplace you actually frequent, but don’t use your card as an excuse to spend a fortune there. And don’t you ever, EVER leave a balance on a retail card unless you enjoy bleeding money.
  • If you aren’t approved for either type, try a secured credit card. Secured cards are great for people who have no credit history, but can’t get a credit card to build one (sort of a catch 22, that one) or for people who have poor credit and would like to improve it. You pay the bank a cash deposit upfront which “secures” that in the event you can’t make your payments, the lender didn’t lose money on you. However, secured cards have annual fees that vary from card to card. The minimum deposit also varies. Do your research before you commit.

Step 2: Charge something
If you are financially stable, keenly wary of your budget and confident that you can make your payments in full each month, you have my permission to charge lots of things. Not too many things – taking up too much of your credit line each month looks bad, even if you pay it off in full each month. But rack up those frequent flier miles, rewards points, cash back percentages, etc.

If you are not financially stable or disciplined about your spending, you have not earned this privilege. Charge a few necessities each month. Real necessities are things like utility bills, textbooks and groceries. A new dress for a first date does not count.

Step 3: Pay it off
On time. Every month. In full whenever possible. If it’s not possible, make peace with the fact that interest is going to suck and making a habit of this will spiral you into debt.

I have all my credit cards set to AutoPay in full. This ensures that I never forget to pay a bill and that I don’t spend more than what I could have paid in cash anyway. If you’re spacey like me and prone to impulse purchases, I would do the same.

Being Responsible

A credit card is useful for building a good history. It’s useful if you get into a real financial emergency like that one time an identity thief emptied my checking and savings and I had $23 and my credit card to live on until the bank resolved the issue. It’s useful for gaining rewards, provided you only spend what you can afford. Randomly, it’s also useful when you accidentally lock yourself out of your apartment and you need to break in.

But a credit card is not for funding a lifestyle you can’t afford. It’s not for getting mad discounts at all your favorite stores. You’re just as capable of building a bad credit history as you are a good one. And a bad credit history is the only thing worse than no history at all. So once you have your card, understand that using it wisely is a big responsibility. Act accordingly.

Essentially, if you haven’t already, get a credit card if for no other reason than to build a good credit history. Even if you only get one card with no benefits, charge one thing on it per month and pay it off immediately, that’s enough. Years from now, when you put a down payment on a car because you were easily approved for a loan with a low interest rate, you will be glad you did.

Image by Shutterstock

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