A Refresher for National
Credit Education Month
By Mark Buonaugurio
Is debt a good thing or a bad thing? Different people will give different answers. Fire can be used to make a delicious meal; it can also reduce a home to ashes. So, too, the prudent use of debt can help achieve one’s dreams, while the excessive use of debt can lead to a financial nightmare.
March is National Credit Education Month, and that makes this a good time to learn or refresh some basics about debt and credit. First things first: what is the difference between debt and credit? Debt is a financial obligation one assumes from borrowing funds from another party. That implies the obligation to repay those funds at a later date, typically with additional payments (interest) added to the repayment of the original loan amount. Credit, by comparison, refers to one’s trustworthiness to manage and repay their debts. Someone who is judged likely to repay his debt will have “good credit” and will be more likely to receive a loan when wanted, and on more favorable terms, than someone who is considered a poor risk – a “poor credit.”
This latter idea gives rise to the use of credit scores, which is a means of rating individuals’ trustworthiness in borrowing and repaying debt. Their credit scores, typically measured by one of three consumer credit monitoring agencies (Equifax, TransUnion and Experian) are developed and maintained based on individuals’ actual history in managing their debt. This credit history develops from their use of credit cards, mortgage loans, car loans, etc. Faithfully meeting one’s minimum monthly payments, and reducing debt over time, results in a good credit score. Conversely, missed or late payments, and growing debt balances over time, result in poor credit scores.
Typically, credit scores are measured on a scale that ranges from 300 to 850 points. According to Experian, the best loan candidates (very good and exceptional) have credit scores between 740 and 850. Credit scores below 669 represent very poor or fair credits. Banks, auto dealers and credit card companies, to name a few, all use credit scores in deciding whether to extend loans to customers, and on what terms.
For someone who hopes to borrow, there is clearly value in maintaining a good credit score. But is building a credit history and a credit score important for someone who thinks that debt is a danger to be avoided? Actually, yes. Credit cards have become an almost essential financial tool in the modern economy. They can be used to facilitate transactions at stores and gas stations, and they are typically needed to reserve a room at a hotel. It is also not uncommon for prospective employers to review the credit scores of job candidates to better estimate their reliability as a potential employee. For all these reasons, having a credit history is a very practical thing, but it can be difficult to evaluate one’s credit worthiness if there is no credit history to review.