For a lot of us, the term “credit” can be an intimidating and obscure concept. We know credit is important because we’ve heard people tell us it is, but we’ve also been warned about the dangers of credit and how having a bad credit score can hold us back from accomplishing our goals, such as buying a car or home. At an even more basic level, credit can also hold us back from growing financially—making it hard for us to score low-interest loans and waive security deposits.
That’s why we’ve created the Credit Chronicles, a dedicated series diving into the ins and outs of credit basics. We’ll explore why it’s important and what actions ability to use credit. So in the words of pre-Lady Whistledown Julie Andrews -- let’s start at the very beginning, a very good place to start. What is credit?
What is credit?
According to Investopedia, “credit refers to an agreement to purchase a good or service with the express promise to pay for it later.” Car loans, mortgages and lines of credit, such as a credit card, are all popular forms of credit. Oftentimes when we need to make big purchases, we don’t have the cash at hand to pay for 100% of that purchase and that’s where credit can come in handy.
That’s also where credit can get dangerous. When you turn back to the definition, you can see that we gave the lender an “express promise to pay for it later.” When you break that promise, you get hit with late fees and excess interest.
What is interest?
Oh yeah, interest. We should probably point that out too. Interest is the fee you pay for having the “privilege” of borrowing money from a lender, calculated as a percentage of the money you still owe. We talk a little bit about interest in our “What’s the Best Method for Paying off Debt?” post, but we’ll get further into the weeds later in our Credit Chronicles series.
Along with late fees and interest, interest, and more interest, not keeping your promise to pay back the money you owe affects your credit score negatively. So what the heck is a credit score?
What is a credit score?
Your credit score is a number between 300-850 that depicts your “creditworthiness,” or your ability to pay back the credit that you owe. There’s many myths floating around about what affects your credit score and what doesn’t, and we’ll confirm or bust those in the Credit Chronicles series about credit scores. But to start, if you’re wondering whether or not your credit score actually matters, it does.
Your credit score is evaluated in a lot of different circumstances and can affect your ability to secure a lower interest rate on a loan, harm your chances of waiving a security deposit on bills like utilities, and determine whether you are financially trustworthy enough to rent at certain places, to name a few. Different from your credit score, your credit report contains an informative summary about your credit history including detailed account information related to high balances, credit limits and dates that accounts were opened.
This is just a brief introduction to credit to give you a good idea of the basics. For more info, read the rest of our Credit Chronicles series below!
This blog post is intended for general information purposes only and should not be considered legal or financial advice.