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Good Debt / Bad Debt: The Second Inapppriate Use of Credit

Posted on September 3, 2010 by - CREDIT BLOG

Good Debt / Bad Debt: The Second Inappropriate Use of Credit
Last week, I introduced the discussion of good debt versus bad debt by explaining the worst use of credit out there: using credit to dig yourself out of debt when you do not have a budget that proves the loan will solve your financial problems.
Today, we talk about the second inappropriate use of credit: retail therapy. In the good debt/bad debt debate, this one is a no-brainer.
Good Debt / Bad Debt, Inappropriate Use of Credit #2: Retail Therapy

If you use your credit cards to buy things because you are bored or depressed, you are creating bad debt. Retail therapy makes you feel worse in the long run, particularly if you are maxing out your credit cards to finance the shopping spree. Not only is this expensive, it also hurts your credit card score. Find less expensive and more effective means of coping.
Here is a list of things you can do that will actually make you feel better and preserve your credit score. And you will notice that none of them cost a single penny:

  • Invite your friends over to play card games.
  • Snuggle in for movie night with a carton of ice cream.
  • Write a letter to someone you love.
  • Invite an old friend for a bike ride, run, or picnic in the park.
  • Re-read a favorite book.
  • Call your best friend with the goal of making her laugh so hard she gasps for breath.
  • Take your kids to the park for a play date.
  • Take a couple of hours to start that project you have been postponing.
  • Wash your car, give your dog a bath, or clean out your closet. These might not seem fun, but I guarantee you will feel much more productive after conquering a chore than you will after a day of abusing your credit cards.

If these suggestions don’t work, at least make a commitment to use cash to finance your retail therapy. Sell some of those old clothes you found when you cleaned out your closet online. Then use the cash you earn from your online sales to pay for your shopping spree.

Part II: What does a credit score mean?

Posted on August 18, 2010 by - CREDIT BLOG, CREDIT SCORING

In “Part I: What does a credit score mean?” we took a look at the meaning of credit scores in being approved for a loan and in obtaining the best interest rates.
“Part II: What does a credit score mean?” looks at:

  • What a credit score means in your job hunt.
  • What a credit score means for your insurance premiums.
  • What a credit score means in your search for a rental unit.

What does a credit score mean when searching for a job?
More than half of employers run credit checks on potential job candidates at least some of the time. This means that you must learn how to improve your credit score if you are one of the millions of unemployed Americans, particularly if you are applying for jobs that require you to handle money.
A potential employer considers a person’s credit score an indication of how reliable they are. And if the job requires you to handle money, a low credit score could also mean that you are financially strapped and might be tempted to skim a little money from the register. Whether you are a financial advisor or local hardware store cashier, a low credit score means that you might be less employable.
If you have a mediocre or bad credit, be sure to read my post about credit scores and jobs so that you can learn strategies for combating this problem.
What does a credit score mean for your automobile insurance premiums?
In some states, a low credit score will increase your auto insurance premiums! Auto insurers have found a correlation between a person’s credit score and the number of accidents in which they are involved, so the lower your score, the higher your premium.
What does a credit score mean for your rental application?
Landlords almost always run a person’s credit score before approving a rental application. The last thing a landlord wants to do is evict a tenant, a time-consuming and costly process. If your score is too low, you might have a problem finding a lease to sign. Be sure to read my article about renting and credit checks.
What does a credit score mean? A high credit score means that you are more employable, pay lower insurance premiums, and have more housing opportunities. A low credit score means you should learn how to improve your credit score!

Part I: What does a credit score mean?

Posted on August 10, 2010 by - CREDIT BLOG, CREDIT SCORING

I spend a lot of time talking about the importance of building a good credit score, but a lot of people want to know: What does a credit score mean?
In this blog post, I’m going to answer that question, taking a look at two factors:

  1. What does a credit score mean to a lender?
  2. What does a credit score mean in terms of monthly payments?

What does a credit score mean to a lender?
A credit score is designed to give creditors an answer to one question: “What is the likelihood that this borrower will be more than three months late on a payment within the next two years?”
A credit score generally ranges from 300 to 850. A borrower with an 850 credit score (a rarity) is considered the least likely to default on payments while a borrower with a 300 credit score is considered the most likely to default.
A credit score above 720 is considered wonderful. These borrowers will qualify for the best loans and interest rates. Anything below 660 is considered weak credit, and anything below 620 is considered bad credit. A borrower with a score below 620 is considered “subprime,” which tells the lender that the borrower is highly likely to default.
A person’s credit score is the single most important factor in determining whether lenders will approve your credit card application, mortgage loan, and car loan. Generally speaking, lenders look at four things when determining your creditworthiness:

  1. Your credit score.
  2. Your salary.
  3. Your savings.
  4. Your down payment (for a home or car loan).

A person with a high credit score and a modest salary would be much more likely to receive a loan than a person with a modest credit score and a high salary.
What does a credit score mean in terms of monthly payments?
We always say that on a $300,000 30-year, fixed-rate home loan, the difference between a 720 credit score and a 620 credit score is $589 a month, or $212,040 over the life of the 30-year loan. Though this statistic is certainly an accurate representation of the difference a great credit score makes, the truth is that interest rates change daily. During the peak of the credit crisis, a person with a 719 credit score (normally considered a great score!) didn’t even qualify for credit.
The interest rates on a loan are updated daily in tandem with the Federal Reserve’s adjustments. As well, different types of loans call for different interest rates.
According to MyFICO.com’s August 2 listing of interest rates, a person with the best credit score would pay $753 a month on a three-year $25,000 car loan; a person with a 620 credit score would pay $919, a difference of $166 a month or almost $6,000 over the life of the loan.
As you can see, if you want to qualify for a loan and receive the lowest payments, you should learn how to improve your credit score.
And next week, we will take a look at several other reasons to build credit in Part II: What does a credit score mean?

Should I Add a Consumer Statement to My Credit Report?

Posted on August 2, 2010 by - CREDIT BLOG, CREDIT SCORING

The Fair Credit Reporting Act allows a person to add a 100-word consumer statement to their credit report. Often, people use the consumer statement as a chance to explain a derogatory mark or a bad credit score.
The consumer statement does not change a person’s credit score; it simply gives the consumer a voice. The statement, which can be 100 words or shorter, can be used to dispute a mistake:
The Visa credit card account ending in 1234 does not belong to me, and I am currently in the process of disputing this with the credit card company and credit bureaus.
The statement can be used after bankruptcy to explain that a person’s bad credit was caused by a medical condition:
You will a bankruptcy on my report from January 2007. I was the victim of a hit-and-run car accident and was unable to work for eighteen months. As a result, I fell behind on my payments and declared bankruptcy.

Some say the consumer statement will hurt a person. After all, it draws the lender’s attention to derogatory information. Others say the consumer statement is pointless as it most often unread.
Still, consumer statements do have their uses. If you are trying to rent a home, the landlord might read the explanation. If you know a potential employer is running your credit score, you can be upfront—let them know about any mishaps, and direct them to the consumer statement.
How to write a consumer statement:
A consumer statement should always be short and to the point. Never place blame on someone else (unless you are a victim of identity theft). If you decide to write a consumer statement:

  • Do not complain or present yourself as a victim (unless you truly are a victim of identity theft)
  • Take responsibility
  • Do not blame anyone or anything
  • Do not justify what happened
  • Keep in 100 words or less

Let’s take a look at two examples:
An effective consumer statement:
I experienced bankruptcy because I naively expected the value of my home to go up. Instead, the payments grew and became unmanageable, so I began charging them to credit cards. Have since gone back to the basics and am working on building my credit and my savings. Also taking classes in financial management.

An ineffective consumer statement:
The bankruptcy is NOT my fault.  I was sold a home that I couldn’t afford, and while the agent earned his commission, I lost my home, racked up huge credit card debt, and was stuck with poor credit! As far as I’m concerned, the mortgage broker should go to jail!
Do you see the difference? The first consumer statement makes the borrower seem responsible and mature. The second might sound entitled, immature, and irresponsible!