Credit and Family: Understanding Credit Inside and Out

I’m going to keep it real: Having good credit simplifies life. Even if you live a debt-free life, strong credit can open doors to a more flexible future. But if you’ve never used credit (or never learned to use it well), how can you make good credit decisions?

At Family Money Map, we believe everyone deserves the knowledge and tools they need to succeed. That’s why we’ve compiled our guide to understanding credit inside and out: so you don’t have to navigate life credit-less.

What is credit?

Credit has several definitions in finance, but for our purposes, we’ve narrowed “credit” to two interlinked meanings:  

1. Credit represents an agreement between a lender and a borrower. The lender agrees to lend money, goods, or services now; the borrower agrees to repay the lender later. Under this definition, “credit” may refer to borrowed funds or the ability to borrow funds.
2. Credit also refers to, or sums up, a person’s borrowing history. People with a “good” credit history have a history of handling debt responsibly. People with “poor” credit may have shorter histories or trouble paying their debts.

Having credit (i.e., a borrowing history) or access to credit (i.e., borrowed funds) has several benefits. Credit offers “leverage,” or the ability to buy more assets than you could afford alone. Credit also lets you tap future income for items you can’t – or don’t want to – save for.

However, credit comes with strings attached. Most lenders charge fees and/or interest for using credit, increasing your purchasing costs. And if you mishandle credit – whether you lose your job or struggle with impulsive spending – you could jeopardize your ability to get more credit later.

How credit works

Generally speaking, credit works like this:

1. You apply for a loan or line of credit from a financial institution, like banks or credit card companies
2. The lender checks your credit report and credit score to see if and how well you’ve handled past debts
3. Using this information, the lender approves or denies your application
4. If approved, the lender sets an interest rate and repayment term (schedule) based on your credit history

It’s important to view credit as a tool, like a hammer or saw. Used properly, credit can amplify your ability to weather economic storms and build a stronger foundation. Wield it carelessly, and your risk tearing down your financial walls.

What is a credit report?

When you borrow money, your lender reports your credit activity to the credit bureaus. These institutions compile this information into a record of your credit history, called your “credit report.” Your record contains pertinent details like:

• Your identifying information (address, SSN, etc.)
• Credit inquiries in your name, divided into “hard” and “soft” inquiries
  • Hard inquiries occur when you apply for credit and DO impact your credit score
  • Soft inquiries screen potential borrowers for preapproval offers or during background checks and do NOT impact your credit score
• When you open and close credit accounts
• How much credit you can access
• How much debt you owe
• Your payment history
• Negative marks and public information like bankruptcies, foreclosures, liens, or wage garnishments

Dozens of credit bureaus operate in the U.S., each with their own reporting methods. However, most lenders work with the “big three” bureaus: Experian, Equifax, and TransUnion. Each credit bureau produces a credit report, which in turn feeds into your credit score(s).

What is a credit score?

Your credit score distills your credit report into a single, three-digit number. This data point serves as a numeric “shorthand” so lenders can evaluate your creditworthiness at a glance. (Your creditworthiness refers to the likelihood that you’ll repay or fall delinquent on your debts.)

Lenders typically lean on two credit reporting agencies: FICO and VantageScore. Both models build your score using information from the three major credit bureaus and rate you on a scale of 300-850. The higher your score, the better you’ve handled past credit.

“Good” versus “bad” credit scores

Having a specific credit score doesn’t guarantee you the best rates and approval odds. It’s most accurate to say that higher scores usually increase your approval odds and decrease your interest rates. Conversely, lower credit scores usually result in lower approval odds and higher interest rates.

While exact cutoff points vary, the general breakdown goes:

• Poor credit: 300-579
• Fair credit: 580-669
• Good credit:670-739
• Very good credit: 740-799
• Exceptional credit: 800-850

What makes up your credit score?

Too many credit scoring models exist to follow them all. (Even the big models don’t agree on specifics: e.g., VantageScore emphasizes payment history more than your FICO score.) For day-to-day purposes, it’s worth knowing the general criteria most credit scores consider:

• Payment history tracks how often you make on-time payments. This factor usually comprises about 1/3 of your score; just 1-2 missed payments could tank you by 100+ points!
• Credit utilization rate (CUR) measures how much you owe compared to how much you’re approved to borrow. It’s best to stay under 30% of your total credit limit – under 10% is even better!
  • CUR typically tracks “revolving” lines, like credit card accounts, and can be measured individually and overall.
    • If you have one card with a $1,000 credit limit and spend $250, your CUR is 25%. ($250/$1,000.)
    • If you have two cards with a total credit limit of $1,000 and spend $250 on each, your CUR is 50%. ($500/$1,000.)
• Credit history age measures how long you’ve used credit overall and on individual credit accounts. The longer you’ve responsibly managed credit, the more likely future lenders will fund credit.
• Credit mix looks at how many types of credit you have. Mixing credit types shows lenders you can handle several kinds of credit, while having just one can lower your score.
• New credit inquiries tally how much credit you’ve applied for and the resulting hard inquiries. Occasional hard inquiries are expected – but too many, too fast, warns lenders you’re desperate for funding.
  • Most scoring models make exceptions for rate shopping auto and mortgage loans. Lenders like knowing you’ve done your research, so multiple applications in a short period may “lump” into one ding.

Types of credit

Credit takes several forms, though most fall into two categories: installment or revolving credit accounts. We’ll explore the differences below.

Installment credit

Installment credit refers to loans you take out once and repay over time. Also called “lump sum” loans, they usually carry a fixed interest rate and payment size until payoff. (Though some – often mortgages – may charge variable interest rates.) Installment loans come in secured and unsecured varieties.

Examples:

• Personal loans
• Student loans
• Auto loans
• Mortgages

Revolving credit

Revolving credit lines set a maximum credit limit you can borrow from and repay repeatedly. Also called “open-ended” credit, they don’t have a set end date unlike installment loans. Instead, you make payments until you’ve cleared your debt.

Revolving credit lines often have several features in common, like:

• Monthly minimum payment requirements (either a dollar amount or percentage of debt owed)
• Higher interest rates than lump-sum loans
• Interest rates that fluctuate with market changes

Some revolving debt, like credit cards, let you avoid interest if you repay your debt each month. Others, like HELOCs, charge interest that accrues (increases your debt) daily.

Examples:

• Credit cards
• Charge cards
• Home equity lines of credit (HELOCs)
• Personal lines of credit

Service credit

Service credit describes contracts where you receive a service upfront and pay later. This category often includes monthly bills that measure usage, like utility bills or phone plans. (Though most service debts don’t charge interest, they’re still considered credit.) Historically, service credits haven’t appeared on credit reports, but some models have begun adding this information.

Secured credit

Secured credit refers to debts “secured” by collateral, like your mortgage or auto loan. If you don’t make payments, your lender can claim your car or home to cover your debt. Most secured credit arrangements are installment loans, though some – like HELOCs – fall into the revolving category.

Unsecured credit

Unsecured credit refers to debts not backed by collateral, like most credit cards, student loans, and personal loans. Falling too far behind on unsecured credits may prompt the lender to sue you to recuperate their money. Since they pose more risk to lenders, unsecured credit lines typically charge higher interest rates than secured lines.  

Types of credit to avoid

Not all credit is created equal. As a rule, families should avoid the following credit “no-nos”:

• Most store-brand cards, which set exorbitantly high rates and unfavorable terms
• Predatory payday loans that charge high interest rates and tons of fees
• Expensive credit card cash advances
• Title loans that secure funding against your car title
• Credit that doesn’t build assets, secure your family’s financial or physical safety, or float you through emergencies

Using credit as part of good financial health

It may seem counterintuitive to go into debt to build financial health, but not all credit is bad. Credit may actually benefit your family when:

• It builds assets or income (mortgages or business loans – which may also have tax advantages)
• You need to protect your family’s safety (auto loans to buy a newer/safer car)
• You’re facing emergencies and low savings (credit cards/HELOCs to pay for medical care, household expenses during job loss, etc.)
• You can afford to pay your balance each month and earn rewards (credit card points or mileage programs)
• You want to leverage 0% interest credit card opportunities for large expenses (buying holiday presents in a tight year)

Your credit history matters – even if you don’t use debt

Good credit matters massively for your financial health, even if you generally live debt-free. Your credit situation – or lack thereof – can impact your:

• Ability to get new credit. Paradoxically, you need a credit history to get more credit, even if you’ve never needed it before.
• Mortgage rates. Buying a home is expensive, and even a 0.5% rate increase can cost thousands. Establishing healthy credit before buying can make your mortgage more affordable.
• Rental prospects. Some landlords use credit reports to disqualify applicants or require cosigners or larger security deposits.
• Insurance premiums. Though not permitted everywhere, some insurers use credit profiles to calculate risk and premiums levels.
• Utility services. Some utility and phone companies use credit reports to determine service options or set upfront deposits or fees.
• Employment options. Some employers pull your credit during background checks. Bad credit (particularly in finance-related fields like banking) can disqualify you from better jobs.
• Ability to go into business. Entrepreneurs and couples going into business together require upfront capital. If you have bad credit, you may struggle to get off the ground.  

How to build credit for the first time

Building good credit requires time, consistency, and turning small steps into sustainable habits. Improving your family’s credit outlook starts with…well, knowing where to start.

Apply for credit

Qualifying for your first credit can be easier said than done. After all, most lenders want to see you’ve responsibly used credit before they’ll give you more! Still, everyone has to start somewhere – often with the following options:

Apply with a local institution

Banks, credit unions, and community institutions are more likely to extend credit if you have a preexisting relationship.

Get a joint account

If you have a spouse or parent with good credit, or if you and your spouse earn solid incomes, a joint account may be the way to go. Joint accounts put two incomes and credit histories on the line, increasing your approval odds.

However, joint accounts do have downsides. Namely, since both your names are on the account, any spending and payment activities (or lack thereof) impact you both equally.   

Become an authorized user

Credit newbies can “piggyback” on someone else’s credit card (usually a parent or spouse). Becoming an authorized user attaches your name to that account and confers its history to your credit report.

Unlike with joint credit accounts, authorized users aren’t responsible for making payments, and the primary user can even keep the card. Spouses and even kids under 18 can benefit without the temptation of spending or pressure of making payments.

Get a secured credit card

Secured credit cards “secure” your line of credit by requiring a cash deposit (usually under $1,000). This cash deposit then becomes your line of credit. Secured cards lower your risk to lenders, as they can seize your deposit if you stop making payments.

That said, secured cards usually have low limits, which makes it hard to keep your CUR under 30%. Plus, most secured cards still charge interest if you carry a balance.

Get a credit builder loan

Credit builder loans operate similarly to secured cards: After applying, you put down a cash deposit, usually under $1,000. The money then gets locked into a bank account as you make regular monthly payments toward your “loan” to build a payment history. Once you’ve paid your “loan” in full, you get the money (plus interest if your loan was saved in an interest-paying account) and a better credit score.   

Put up collateral

An alternative to getting a traditional secured card is to take out a loan offering your income or assets as collateral. (But stay away from title and payday loans!) Often, this route is available to borrowers with higher incomes or more valuable collateral.

Limit hard inquiries

Opening less than 2-3 credit accounts per year minimizes pesky hard inquiries on your credit report. While it’s fine to apply for new credit as needed, overall, the less you apply, the better off you’ll be.

Don’t max out your credit card balance

Keeping your credit utilization ratio (CUR) as low as possible shows lenders you know how to handle debt responsibly. You can lower your credit-to-limit ratio by:

• Paying down your debt
• Requesting a credit limit increase on existing cards
• Taking out another card that you pay off every month

Make on-time payments

Making all of your payments on time and in full is the only way to build a positive payment history. Missing payments or making partial payments show up as negative marks and can substantially ding your score. You can avoid this fate with a few simple steps, like:

• Borrowing only what you can afford
• Budgeting your payments before using credit or loans
• Setting up email or text alerts for upcoming payments
• Setting up automatic payments so you can’t fall behind
• Working with lenders to pause or lower your payments if you encounter rough financial waters

Get credit for paying your bills

Some credit bureaus include “alternative” credit information like your utility and/or rent payments. Not all lenders consider this data, but it doesn’t hurt to have more evidence you’re good at paying your bills!

Keep an eye on your credit report

Your credit report tells you how you’re doing, so it’s only smart to keep an eye on it. Habituate monitoring your credit for free at annualcreditreport.com. You can also keep an eye on your credit score using free tools attached to your credit accounts or sites like Credit Karma.

How to fix “broken” credit

Sometimes life happens: you lose your job, take on bad debt, or run into medical maladies. If you’ve fallen behind on your credit for any reason, don’t lose hope: You can get back on track!

Dispute any mistakes on your credit report

Credit bureaus can make mistakes, particularly if lenders don’t update payment data or you have a common name. Pull your free credit report online weekly at annualcreditreport.com and check for signs of fraudulent or mistaken data. If you find inaccurate marks, dispute them immediately.

If you don’t find any hidden marks, reviewing your report can still indicate where you’ve fallen behind. Maybe you didn’t realize you had a missed payment or haven’t tracked your total debt load. Whatever the situation, your credit report provides helpful insights into your financial situation.

Pro Tip: While you can hire companies to “fix” your credit reports for you, they share a dirty little secret: They can’t do anything for a fee that you can’t do for FREE. Unless you want to pay to outsource the task, it costs nothing but time to dispute mistakes yourself.

Make late payments

Late payments sit on your credit report for up to seven years, which sucks. But not catching up on those payments draws the process out and sucks even more. Every 30 days you don’t pay racks up another negative mark until the account goes to collections. So, make those late payments! (Better late than never definitely counts in credit.)

Keep old credit accounts open

Keeping old accounts open boosts your average credit age and gives you more “rope” for your CUR. Plus, old accounts provide a bigger safety net in emergencies. Conversely, closing old accounts shortens your credit history and reduces your available credit, both of which may lower your score further.

Since accounts require periodic activity to stay active, it’s smart to use them for small purchases and pay them off before interest accrues. (Like autopaying your streaming services or using your card for monthly groceries.)

Take out a secured card or credit-builder loan

Secured cards and credit builder loans aren’t just for newbies; they can also give lenders peace of mind when you’re trying to rebuild broken credit. If you need help reestablishing a good payment history, these tools provide a second chance.   

Become an authorized user

If you or your spouse have mismatched credit scores, the person with “bad” credit might become an authorized user on the other’s account(s). This trick can confer potentially years of credit history to their profile, effectively “hacking” their credit to boost their score. (It’s particularly effective for thin profiles – few credit accounts – or shorter histories.)

Be warned, however: removing an authorized user later erases the relevant account(s) from their credit history, which may deplete their score.

Pay down your CUR

If you want to increase your score quickly, start by beating your balances below the 30% line, if possible. Aside from making payments or increasing your credit limit, you might also consolidate your credit card balances into personal loans. This option pulls some of your debt out of the “revolving” rotation and can even save money on interest.

Slow your roll (of hard inquiries)

Another tip that bears repeating!

If you have a history of applying for lots of credit, stop. Yes, credit can float you through tough times, but it can also drag you down when you’re struggling financially. Instead of applying for credit you don’t need or can’t afford, consider alternatives like debt management, side hustles, or even asking for a raise.

Pro Tip: Credit bureaus allow you to “freeze” your credit, meaning they’ll reject new hard inquiries. This useful features protects against identity theft, but can also protect you from yourself. Whether you struggle with spending or just need a “check” before getting new credit, freezes act as stoplights on the credit highway.

Wait it out

When life hits you hard, sometimes the best strategy is to wait it out.

If you’re facing foreclosure, repossession, tax liens, or even bankruptcy, these marks inevitably appear on your credit report. In some cases, you can request marks be “withdrawn” after correcting the situation. (Such as paying off late taxes to remove a tax lien on your report.)

But most of the time, you can only wait until they fall off in 7-10 years and take other steps to rebuild your credit.

Healthier credit = healthier family finances  

Building and maintaining healthy credit doesn’t just help you: it can help your family, too. With a good credit score and a solid mix of credit options to choose from, you can weather economic storms, leverage your income(s) to build a solid foundation, and even give your children a bigger head start.

It all starts with understanding how to make credit work for you – not against you.