Establishing Good Credit as a Young Adult: A How-To

I checked my credit report recently and it appears I was issued my very first card in 1999. I was a full 19 years old, a sophomore at Penn State and had no immediate need for the initial $4,000 credit limit. But as I recall, signing up for the Visa card on campus won me a lovely pair of Nittany Lion shot glasses – much cooler than the oversized tee-shirts another bank was offering down the street.

For better or for worse, those days are no longer. The Credit CARD Act of 2009 prohibits banks from giving away free merchandise to students on and around college campuses. And perhaps the biggest whammy to banks: they can no longer issue credit cards to those under the age of 21, unless the applicant has a qualified cosigner (usually a parent) or proof of sufficient income.

While these new rules are designed to help protect young adults, as with all well-intentioned Acts, there’s a downside, too; starting out will be harder because establishing a first credit line is now more difficult. Why? For one, according to FICO, 15% of your score is equal to the length of your credit history, so starting out early is important. Moreover, new cards will look at how well you do with old cards, and that goes to payment history and debt usage, which combined make up 65% of your score.

With the new age limitations, how can a responsible young adult circumvent the new rules and establish some credit history before age 21 in order to get into the rhythm of good financial behavior and add some length to their credit history? Here’s some advice:

Get a Job. The bill says a young adult’s application must indicate “an independent means of repaying any obligation arising from the proposed extension of credit in connection with the account." It’s no guarantee that having a job will qualify you, but it can certainly boost your chances.

Pay Down an Installment Loan. Unlike credit cards, an installment loan, like a student or car loan, is to be repaid in periodic installments. Paying these debts off on time is an additional way to boost your credit profile and score.

Get a Secured Card. A secured card offers an alternative way to establish credit history. An issuing bank (I recommend a credit union) offers you a credit line usually equal to a sum you deposit with the bank, starting at around $200-$300. Like a regular credit card, you’re responsible for paying back whatever you use (plus interest). Look for a card with low or no annual fees and make sure the issuer reports your activity to all three major credit-reporting agencies.

Join Mom & Dad’s Card. If your parents regularly pay off their bills on time, see if you can become an authorized user on their credit card account. The upside is that you can get credit for their timely and consistent payment activity. The downside is that if your mom or dad falls behind on payments or defaults, you’ll also look like a credit deadbeat.

Farnoosh Torabi – Credit.com Personal Finance Contributor, nationally recognized author, expert and television host. Her first book, You're So Money, is an acclaimed tell-all for young adults searching for financial independence. Her new book Psych Yourself Rich, gives readers the mindset and discipline to build their financial life.

Why Good Credit Scores are Key to Surviving in a Troubled Economy

Credit.com and the free Credit Report Card were featured last night on Channel 2 KTVU's special report by Pam Cook.  The report discussed why preserving good credit scores is key to surviving in a troubled economy.

Adam Levin, Chairman and Co-Founder of Credit.com, was interviewed for the piece and explains how your credit card balances are one of the keys to obtaining high credit scores. What is your credit score, how is it calculated and what does it mean? If you missed it, you can watch the full clip here: http://www.ktvu.com/video/23512512/index.html

Special thanks to Erin Smith, a local consumer in the San Francisco area who shared her personal credit story.  The fact that she used our free Credit Report Card before she went to apply for an auto loan makes everything we do at Credit.com worthwhile. Credit.com, promoting financial literacy and consumer credit awareness, one consumer at a time. 

If you haven't tried the Credit Report Card, we encourage you to check it out:  https://www.credit.com/ufg/default/ccom_credit_report  Not only does it help you understand exactly how your credit scores are calculated and where you stand, it's really, truly, free.  And be sure to let us know what you think!

Student Loan Inquiries and Your FICO Score

Applying for a student loan? Shop til you drop.

FICO credit scores do not penalize you for shopping for the best student loan deals. When you apply, the lender pulls your credit report and leaves behind a credit inquiry. In some cases the inquiry can lower your scores. However, student loan inquiries from multiple lenders are assumed to be "rate shopping" rather than multiple debts. This logic also applies for auto loan and mortgage inquiries, which are also likely the result of rate shopping. So, be sure to do your rate shopping to find the best deal...your FICO score will be just fine.

John Ulzheimer – Credit scoring and credit reporting expert and author, John is the President of Consumer Education for Credit.com. Formerly with Equifax and Fair Isaac, John shares his unique insight of the inner workings of credit scoring models and the credit reporting industry on CreditBloggers.com.

Protect Yourself: How to Take Advantage of New Laws Under the CARD Act

National Consumer Protection Week is the perfect opportunity to protect yourself. We consumers now enjoy significant protections from adverse treatment by our credit card issuers under the CARD Act (get detailed information about the CARD Act's provisions). That's the good news. The bad news is that many of those protections require action on our part. It's not significant action. We just have to be more diligent and actually read our mail.

If our credit card issuers increase our interest rates or implement new credit card fees, they are required to give us a 45-day notice of the change. And, we have the right during that 45 days to opt out of the change and pay off the balance under the old interest rate terms. This is a significant protection from higher rates, but it requires that we proactively contact our issuers to opt out.

Roughly 97% of us do not read our bank notices. And, if we do not respond with our intention to opt out within the 45 days allotted to us under the CARD Act, then the issuer can increase our rates on all new purchases. So, Step #1 for protecting ourselves from higher interest rates and annual fees is to open all of the mail we receive from our credit card issuers -- and READ it.

John Ulzheimer – Credit scoring and credit reporting expert and author, John is the President of Consumer Education for Credit.com. Formerly with Equifax and Fair Isaac, John shares his unique insight of the inner workings of credit scoring models and the credit reporting industry on CreditBloggers.com.

National Consumer Protection Week 2010

We're proud to announce that Credit.com has joined a group of federal, state, and local government agencies and national consumer organizations to launch the 12th-annual National Consumer Protection Week (NCPW), March 7-13, 2010.

NCPW 2010 — Dollars and Sense: Rated A for All Ages — highlights the importance of using good consumer sense at every stage of life – from grade school to retirement.

NCPW partners are promoting free resources to help people protect their privacy, manage money and debt, avoid identity theft, understand credit and mortgages, and steer clear of frauds and scams.

To support this year's NCPW campaign, Credit.com will be hosting a daily series on consumer protection issues with tips, tools, and expert commentary through our blog, in our Learning Center and community forums, as well as in the Expert Insight area of our news section -- so be sure to check back daily. We're also hosting a week-long public relations campaign where our team of experts will do their part to spread the word on key consumer protections and financial literacy topics via radio, television, and print outlets.

To become a partner in this national campaign, visit the website at www.consumer.gov/ncpw, where you’ll find information for getting involved and promoting NCPW.

Credit Avoidance is NOT Credit Responsibility

John Ulzheimer, President of Consumer Education for Credit.com, appeared on Fox Business this week to explain how canceling credit cards can hurt your credit scores. The interview gives a great visual explanation of how closing one credit card account can impact your total revolving utilization and lower your scores.

John also goes into detail on why avoiding credit is a bad idea and how the best strategy for managing credit and credit cards is to learn how to manage and leverage them responsibly. Watch the clip:

Your Plastic Over Your Bricks? Are You Kidding?

Two years ago, Jim Cramer from CNBC’s Mad Money suggested that people walk away from their homes if their value was down 20 percent. And an Arizona law professor recently suggested the same thing in his paper titled “Underwater and Not Walking Away: Shame, Fear and the Social Management of the Housing Crisis.” Now it seems as if many of you are actually listening and executing their advice.

FICO, the company responsible for the FICO credit scoring system, announced today study results that “in 2008-2009, bankcard accounts were just 1.6 times more likely to become 90 days delinquent than were mortgage loans.” And even more disturbing is the fact that their study showed that mortgage delinquencies have risen for higher-scoring individuals. These are the people who are being perceived by lenders as having lower credit risk.

For the folks who are missing payments on their mortgages because they are entering into a loan modification program and are being forced to miss payments during their trial period, these should be removed because of their arrangement with their lenders. For those folks who are missing payments because their payments have adjusted to now include principal, a meaningful amount of those loans will go into default and will end up as foreclosures.

This also seems to verify what many personal finance types have been saying over the past 12 months:  Consumers are now seeing more value in keeping a credit card open than keeping their roof over their head. Losing the access to capital and the ability to conveniently shop has taken on new importance in the post-credit crunch environment that saw millions of cards closed and credit limits slashed.

John Ulzheimer – Credit scoring and credit reporting expert and author, John is the President of Consumer Education for Credit.com. Formerly with Equifax and Fair Isaac, John shares his unique insight of the inner workings of credit scoring models and the credit reporting industry on CreditBloggers.com.

New Years Resolution: An Alternative Way to Save

The savings rate in the United States has had a terrible history for the last ten or twenty years. When I was a kid, the savings rate in the United States was about 10 percent, meaning people saved $10 out of every $100 they earned. The graph below, courtesy of Billshrink, Inc. shows both the savings rate and the tremendous expansion of consumer debt over the last 60 years. (click image to view full size)

If looking at this makes you shudder, you are not alone.

The early success of use-anywhere credit cards resulted in an explosion of cards from many issuers. You can see from the red line in the graph how popular that idea has been. In spite of the credit crunch, if you are a creditworthy person, you still get many solicitations every week.

The credit card was like giving a match to an arsonist, and people predisposed to that immediate gratification gene proceeded to blow up their financial lives with awesome debt burdens. It now appears that Americans have begun saving again, which is a good thing. I don’t think that there is any question about the proposition that the credit crunch shocked people back to reality.

Now let’s talk about the New Year’s Resolution part.

I would sit the family down and have a Council of War on the family finances. Changing your financial habits, particularly spending habits, will likely not go over well with teen-agers who may feel that they are entitled to do whatever they want. No longer, and this is a great opportunity to help them make a giant leap toward responsible adult behavior. Okay, now on to the money.

So let’s assume that you have cut back on your spending and now have excess funds. What should you do with the money? These are important questions when you can earn a mere 1 percent on bank deposits and only slightly more with CDs of a longer maturity. That’s still a skimpy return. Here are some other choices.

First, you should look at paying off any outstanding credit card balances. Now this doesn’t mean closing your accounts. Credit cards, if used properly, are a great way to build and maintain excellent credit and credit scores. And having excellent credit is more important now than it has ever been. The best way to utilize your credit cards is to charge only what you can comfortably afford to pay off at the end of the month. Not only does this save you from paying interest on the balance each month, but it’s also a great strategy to ensure that you stay out of debt.

Second, you can contribute to your retirement account, especially if your employer will match some of your contribution. When an employer matches a percentage of your contribution, you should maximize the benefit by contributing up to the employer match at the very least. Failing to do so is like turning down free money!

Third, you can contribute to a Roth IRA where the money can grow and you don’t have to pay taxes on withdrawals when you retire. The 529 education savings plans offer tax advantages as well if your kids are still looking forward to college.

Fourth, after you have done some work on the first three, one of my favorites, and the purpose of this article, is that you can make additional payments on your mortgage to reduce your principal balance. If the rate on your mortgage is 5 percent, the savings would be the same between investing in something with a 5 percent return and paying off your 5 percent mortgage.

The nicest feature of this plan is that the return is guaranteed; it is a “risk-free” investment. When you make a principal reduction of, say, $1,000, that is $1,000 you never have to pay interest on again, ever. Not only that, but you cannot lose that principal as you might with another investment.

The lender cannot come back later and give you money and ask you to start paying interest on it again. Plus, it compounds because every normal payment you make afterwards diverts less to interest and more towards principal reduction and pays off your loan earlier. To see how additional payments on your mortgage can benefit you, check out these mortgage calculators.

Finally, I know a large number of retirees and those getting close to retirement. Some still have gagging mortgages for the reasons we discussed above. But others planned well and made extra mortgage payments, and have paid off their mortgages. Guess which folks are happier?

Randy Johnson – Author of How to Save Thousands of Dollars on your Home Mortgage and Savvy Borrower articles, Randy is a mortgage broker who has financed over $1 billion in properties. He writes about home buying and real estate finance topics for CreditBloggers.com.

Credit.com's Credit Report Card Featured in USA Today

An excellent article in USA Today talks about why you can and should check your credit reports for free. The article profiles services that provide legitimate "free" credit reports and scores and features Credit.com's Credit Report Card in the list! 

To read more, check out the full article:  You can and should check your credit profile for free.

To order your free Credit Report Card, go to https://www.credit.com/r/credit-report-card to try it out! We love feedback, so don't forget to let us know what you think!

Amex Not Terribly Happy With Me

Last week I was on CNBC discussing the merits of charge cards for credit building, which are marketed to consumers in their 20s by Amex. The product is called the Zync card. I was joined by a gentleman from Amex. You can view the video below in a previous CreditBloggers posting. My argument was entirely specific to the downside of using a charge card, a credit vehicle with no credit limit, instead of a credit card. Here were my arguments:

1.  Charge cards have no credit limit, so the highest balance ever charged would be used as the denominator (the bottom number) when calculating utilization. And charge card balances tend to be lower than credit card balances because you have to pay it in full each month. Point being, it's not likely that you'll have a balance of $5,000, $10,000 or even $20,000 on your charge card, especially as a 20 something. That is, of course, unless you're a professional athlete. 

So, if the most I've ever charged was $1,000, then even a modest balance of $500 would result in that card being 50% utilized, and that's not good, because having a high revolving utilization percentage like this is not good for your credit scores. It's not terrible, but it's not good. You can play around with the number on each side and see how other charges/high balances would change utilization. This is the point I made on the air. 

2.  Consumers in their 20s have younger credit reports and fewer accounts. What this means is that they'll likely be scored in a "thin file" or "young file" scorecard. What this means is even modest balances will have more of an impact than the same balance belonging to a consumer who has a much older or robust credit history. I was not able to make this point on the air. It's a complicated topic and you have a finite amount of time to fully make your point.

Now, after the show aired, two things happened that I found interesting, but not surprising. First, someone from Amex's outside PR firm started following me on Twitter. And while I'm not a conspiracy theorist, I find the timing to be way too close to be coincidental. Second, I got a call and an email from Amex's VP of Public Affairs, who I called back that afternoon.

The point she made was that not all scoring models include charge cards in the calculation of utilization. And she's correct. One of the scores she referenced was the VantageScore. Admittedly, I'm not a VantageScore expert, because it has 5.7% of the market, so I have to take her at her word for that. She also referenced custom scoring models, which are models built either internally by a lender or by a 3rd party model developer for one lender's use. It is entirely possibly that she is also correct there, but nobody really knows for certain because custom models don't have the same amount of transparency as, say, FICO scores do. 

So, she might know for Amex's custom models, but not for the large collection of other custom models used by Amex competitors. She was also not willing to go on the record as saying that Amex uses VantageScore, so her argument, while valid, would have made more sense perhaps in a few years when Amex and the vast majority of other creditors can say that they do, in fact, use scoring models that don't count charge cards in utilization.

I even had someone, not from Amex, make the suggestion that you could go out and charge a large amount of purchases, run up the high balance, pay it in full, and then enjoy the higher "highest balance" in your score. That was the same argument people made years ago when Capital One wasn't reporting credit limits and high balance was being used for utilization instead. I didn't buy it then, and I don't buy it now. It assumes that you understand the whole issue and care enough about it to go buy a $10,000 antique lamp just to run up a huge balance and benefit your credit score. 

Essentially what it boils down to is this: What I said on CNBC was 100% accurate for some percentage of the credit scoring models being used by lenders today. And, it was 100% incorrect for some percentage of the credit scoring models being used by lenders today (those that don't use charge cards in utilization). And while Amex isn't going to agree with me, I still think charge cards aren't the best tool to build credit for young people, for the same reasons as I have stated above. 

We don't know what scoring models are being used by lenders or insurance companies when we go out and apply. As such, we don't know if it's one of the models that DOES or DOES NOT count charge cards in utilization. And we'll never know how a lender's custom models treat charge cards.

What we DO know is a credit card with a $10,000 credit limit will be treated as a card that has a $10,000 credit limit, which is what we want. And if we have such a credit card, and we charge $1,000, we are still only 10% utilized, which is the best scenario for our credit scores.

Amex is a perfectly fine credit card company. They're generally regarded as being the gold standard, and I don't disagree with that moniker at all. I have two Amex cards, which are surprisingly still open. A charge card DOES have benefit to your credit. Having a card on your file serves to build a credit history, and that's a good thing. Plus, it's true that you probably won't find yourself in crushing credit card debt because you know it has to be paid off in full each month. This serves to control the balance and teach good money management for people young and old.

My points are on the record and I stand by them. Perhaps next time we can have the discussion in a forum that allows a more complete investigation of the facts.

John Ulzheimer – Credit scoring and credit reporting expert and author, John is the President of Consumer Education for Credit.com. Formerly with Equifax and Fair Isaac, John shares his unique insight of the inner workings of credit scoring models and the credit reporting industry on CreditBloggers.com.