At some point, you may be interested in using credit. It seems like a nice idea, right? The ability to use someone else's money now and pay it back later is a really neat idea. When used in a smart way, credit cards can help you build a credit score, secure cheaper financing, etc. However, if used carelessly, credit cards can lead to financial handcuffs that can stick around for a long time.
Although it may not be wise to rely fully on credit as a college student, it is important to start building a credit history when reasonably possible. Here are some easy ways to develop good credit habits and start building a credit history as well, without getting yourself into trouble.
Building a Positive Credit History
It's important to understand the credit scoring system when you begin to build your credit history. There are five major components that you are graded on. These components determine your credit score.
History of Credit - the length of time you have been using credit. The longer, the better.
Credit History - how well you have been managing your payments. Are you always on time, or are you sometimes (or always) late? Paying on time is important for a good score.
Credit-Limit-to-Balance Ratio - the percentage of credit that you use versus what you have available. Using less is better.
Types of Credit - a healthy mix of installment loans, store credit and major credit cards will help you get a good grade score.
Frequency of New Credit Received - The less often that you seek credit, the better. It’s OK to take on a variety of credit cards over time, but don’t do it all at once.
As a college student, it would be best for you to focus on the first three components. History of credit and credit history are two of the biggest factors in determining your credit score. The primary reason you will want to build a credit history is to borrow money (e.g., buying your first home) or show a person or a business that they should have faith and depend on you to keep your word.
Building Good Credit Habits
Use a Secured Credit Card
One way to become acquainted with using credit is to start with a secured credit card. A secured credit card is a credit card in which the credit line is based on a deposit that you have made with a bank. Let's say you are approved for a secured credit card and you deposit $500 to secure the line of credit. The bank will allow you to use a credit card with a limit of $500.
If you have no credit history, it may be easier to be approved for a secured credit card than a standard credit card. The money that you deposit is your promise to the bank that you will pay the card.
Pay the Balance in Full
The best way to use a credit card is to pay the balance off in full each month. Only charge what you can afford to pay when your bill is due. In order to do that, you should make the credit card a part of your monthly budget. Set up a recurring bill, such as your cell phone service, to be charged to your card each month. Then, each time you are paid, pay the card off in full.
Practice with a Prepaid Debit Card
Although you won’t be able to build credit with a prepaid card, it can be a good way to practice before getting a credit card. Prepaid cards are actually considered debit cards. This is because you only have access to the money you actually “load” on the card. A credit card, on the other hand, represents money that you are borrowing. This is money that you don’t necessarily have in hand.
If you carry a balance with a credit card, you have to pay interest on it. With a prepaid debit card, you only use money that you have. If you use all the money associated with the prepaid card, you have to add more money – or you can’t spend. You don’t pay interest with a prepaid card, although there can be plenty of other fees, so make sure you read carefully before you start using one.
The main advantages of prepaid cards are that they are easy to use and they keep you out of trouble. You can pay with plastic, without the worry about using credit.
The biggest downside to prepaid debit cards is that some of the fees they charge can start to add up. Many prepaid cards charge monthly fees, activation fees, ATM fees, balance inquiry fees, and even fees to call customer service and talk to a representative. If you decide that a prepaid debit card is right for you, double-check the fee schedule first.
How did you begin building credit?