What is credit? Do I need it?

What is credit?  Credit is essentially the reputation that you have when it comes to borrowing money.

That means if you get a credit card, student loan, a mortgage, a car payment, or any other debt through a financial institution, that institution is going to report that loan information to the credit bureaus.  

There are three different credit bureaus: 

  • Equifax;
  • TransUnion; and 
  • Experian

Credit score

Your credit score is a point system rating on how good you are at borrowing money.  A score ranges from 300 (which is not good) to 850 (which is perfect).

That score is made-up of five different things: 

  1. Payment history makes up about 35% of your credit score. If you are good at making payments on time you are going to have a higher score. 
  2. Credit balance on your accounts comprises about 30% of your score. Let’s say that you have a credit card and your credit limit, (or the amount of money that you can borrow on that card) is $1000. You want to try to keep that balance under 30%, or $300 in this example. 
  3. How long you’ve had each of those credit accounts makes up about 15% of your score.  If you’ve had a credit card for a few months your score might not be as good. But if you’ve had a credit card for 15 years, that can help your score increase.
  4. Types of debt make up about 10%.  If you have a car payment, a credit card, and a mortgage that will help your credit score be a little bit higher because you have different varieties of debt.
  5. Recent activity accounts for the last 10%. For example, if you have opened up three different credit cards in the last couple of months, your credit score is going to drop because it’s an indication that you’re taking on debt and indicate that there may be some financial trouble.

What a credit score is NOT…

A credit score is not a complete picture of your overall financial health because your savings account, retirement accounts, investments, and other assets that do not have debt tied to them are not going to show up on your credit report.

So now that you know what credit is and it’s not, do you need credit?

We’re going to get a little controversial because no, you don’t need credit. 

There are certainly ways to get around it, but credit is definitely a helpful tool.  When you are applying for jobs, car insurance, employers and service providers may check your credit.  If you don’t have credit, you can generally get around it by providing deposits and/or additional information but there will usually be more hoops to jump through. 

Learn more about using credit cards to build credit next! Follow me on TikTok to listen now.