Let's Talk Credit

There are a lot of key terms in finance.  While they are all important, credit is the one we all know, even if we don't fully understand what it is.  We hear the word on the radio and tv; we see it on billboards, signs, and applications ... credit, credit, credit...  (Said in my best Jan Brady voice.)  What is the BHD deal with this thing anyway?! What exactly IS credit? 

There are two parts to credit:

Credit is 1) your ability to get someone else's money to pay for something you want which is based on 2) your ability to pay them back. 

Seems pretty easy, huh?  Then why do we get so tripped up?  First thing first.  Not all credit is created equal, nor does it impact you equally. (We'll dive into that deeper in a later post.) Second, there are two main categories of credit, secured and unsecured.  Secured means you have something at stake for ensuring repayment.  Think your car, home, cash.  Unsecured means you have nothing to back repayment.  Think your credit cards, student loans, medical bills.  Can you guess which type costs you more money in the long run?  And Why?

Within these categories, there are four main types of credit. 

1 - Revolving Credit - you are given a maximum limit of money and the opportunity to spend it any way you like. Also, you have the option to only pay back a partial amount of what you spent each month  (called a Minimum Monthly Payment (MMP)) thus the payment revolves month over month.
      - Primary examples of this are credit cards and store cards.

2 - Charge Cards - these are very similar to revolving accounts with one MAJOR difference; you must pay it back 100% each month.
     - Primary example of this is an American Express card

3 - Service Credit - an agreement you make with a service provider to pay an amount each month for a service you use.
     - Primary examples of this are utilities, internet, cell phone, etc

4 - Installment Credit - a set amount of money loaned to you with a mutual agreement to pay a set amount each month over a specific period of time. 
     - Primary examples of this are vehicle, mortgage, and student loans

So, how do we get credit?  Why with credit, naturally!  What the what?!  So circular, yet so important.  That bit above where I said, "all based on your ability to pay them back", yeah that one is the kicker.  You get credit by getting credit - which is an analysis/calculation of your ability to pay people back over time. This calculation comes in the form of three numbers - depending on which credit rating service you look at (another thing we will look at later) - ranging between 250 (the absolute worst of the worst) and 900 (you bloody rock). 

The scores are put into categories and the better the category the better your credit.  The better your credit the better your chances of getting credit!  *Mind = Blown*

Keep in mind, however, credit is a double edged sword.  In some cases it can hurt you coming and going, in others, it can help you coming and going.

Feel free to drop your questions and comments below.  In the fairness and peacefulness of all things - submissions will be monitored.