Understanding credit: Master the basics of managing your credit

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Why is credit important?

Credit is important because it helps you get what you need, when you need it—making it a reliable, useful and convenient financial resource.

But it’s critical that you understand how to manage credit. Whether you’re financing a new car, paying for college, buying a home or funding your dream vacation, there are specific steps you can take so you don’t join the growing number of consumers who borrow on credit without a plan to responsibly pay it off.

In fact, overall U.S. household debt reached $423.8 billion in early 2019, according to NerdWallet’s annual analysis of U.S. household debt. Of that, the average American household is saddled with about $16,425 of credit card debt.

So how can you avoid falling into credit card debt? The key is to understand what credit is, how to manage it, and how to establish and maintain good credit.

Understand credit and how it’s used

  • What is credit: Credit is money you borrow to purchase goods and services without upfront cash.
  • How does credit work: First, you apply for a line of credit by filling out an application (could be at a mall clothing shop or an online retailer, for example). Next, if you’re approved, you’re able to borrow a predetermined amount of money – say, up $500 or $5000. This means you’ve been funded credit by a bank or other financial institution that expects you to pay them back. Now you’re responsible for paying off the balance of the loan, usually in monthly installments. 

Nail the basics of responsible credit management

  • Keep your total balance owed as low as possible. And pay your bill on time, every time. Whether it’s one credit card or five, keeping a low balance with a history of on-time payments will boost your overall credit score. Owing money on a credit card doesn’t automatically make you a high-risk borrower, but using a high percentage of your available credit could signal that you’re overextended and more likely to miss payments.
  • Pay off the most expensive debt first. It’s a good idea to work on tackling credit cards or loans with the highest interest. Pay more than the minimum payment to start chipping away at the total balance—otherwise you’re just covering the interest rates and treading water.
  • Find out your credit score and monitor it closely. Your credit report reflects your financial health. And your credit score is a direct reflection of your risk as a borrower. If your credit score is good (700 or higher), it shows a proven track record of responsible debt management. And that means lower-interest-rate loans. Take stock of where you stand now and aim to boost that score with on-time payments.

Reap the benefits of maintaining a good credit profile

When you have a strong credit report, you’ll have access to more borrowing options at lower interest rates. Plus, potential employers, landlords and insurance companies often reference your credit history when determining your candidacy for jobs, rental agreements and premiums. A high credit score and a solid track record of on-time payments will position you for better opportunities down the road.

So now you know why it's important to monitor your credit report and make your payments on time. Credit can be your friend – when you treat it with respect and give it the attention it deserves.

 

For more tips and advice, check out Comenity’s financial education resources.

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