Many young adults in their early twenties have little or no established credit. Because of this fact, they have very few options for finding housing and buying a car (we’ve talked about this struggle before here). Too many young adults ignore the importance of building credit until it’s too late. At that point, the options to get started are more challenging.
Unfortunately for many, the only way for these young adults to establish their own credit is to apply for secured or high-interest credit cards. Before you undertake this journey, here’s what you need to know about credit card debt and building credit.
Getting In Over Your Head Quickly
When you don’t have any established credit there aren’t many places you can go other than a secured credit card or a high-interest credit card. Because young people don’t have any experience with the right and the wrong way of using a credit card, they generally fall into the later.
Even though the initial credit card line of credit is low, it can still wreak havoc on a person who is first starting out on their own and basically clueless as to the expenses ahead of them. Before you know it you’ve maxed out the credit cards and then you apply for another. This is a scenario that happens too often with inexperienced young adults. After about 2 to 3 cards at their limit, you begin to realize that you need to eventually repay this credit card debt. By now you’ve racked up a thousand or so with very little wiggle room in your monthly expenses.
Transferring The Balances To A Lower Interest Rate Or An Interest-Free Card
If you’ve had your cards for 6 months or so and are in good standing you can go online to a company such as Card Ratings and go through the best cards available for your current situation. Since they already have the pros and cons connected to each, it won’t be difficult to find a card that allows you to transfer the balance for 6 months or more, interest-free. This will give you the chance to pay off the recently accumulated debt without struggling just to pay the interest.
If you can find a 0% APR balance transfer card, it can make a lot of sense to transfer the balance over and work to pay it off before the promotional period expires. Check out the best balance transfer cards here.
Using A Personal Loan To Pay Off Debt
Sometimes it doesn’t make sense to get a balance transfer card, and instead a personal loan makes sense. If you don’t think you can pay off your debt during the promotional period, getting a low interest rate personal loan can still save you lots of money when paying down credit card debt. The important thing to remember is you need to shop around to find a personal loan with the lowest interest rate possible. That’s the only way to save money in this arrangement.
The Right Way To Use A Credit Card
Credit cards offer a great way to improve your credit score and show potential lenders of a mortgage or a car loan, your credit worthiness. If you use them the right way they are a wonderful tool that can help keep your score at a good rating (730 and above). However, if you misuse the privilege and make late payments or miss a few, they can have quite the opposite effect.
Credit cards are not for the purchase of impulse spending without the means to pay it back. But, rather, they are a great way to earn mileage points for traveling, discounts in stores, and pay something large off over a few payments rather than all at once. You should never rely on them to pay bills or get you through the month.
Keep The Card Balance Below 50%
If you have a few, 2 or 3, credit cards, they can actually give you a boost on your credit score. That is if you maintain a balance that’s less than half full. The three major credit reporting agencies view people who run their cards up to the max as a higher risk regardless of their payment history.
The amount of debt you have available, the amount of debt you owe and the length of your established credit are all separate criteria that they rate. So, in essence, anyone of them, or all, can hurt you. If you only have established credit for 6 months and every credit card you have becomes maxed your score is going to show it with a low rating.
When you first step out on your own it’s very exciting. You have your own place, a job and you make all the rules. It’s a wonderful time for a young adult. What you need to also remember is that you alone are also solely responsible for paying the bills. Before taking on an apartment you can’t afford, a car payment and too many credit cards, sit down and list your income after taxes and then deduct an average rent, cable, cell phone, electric, food and other essentials. This way you’ll know ahead of time what you can afford and then come in a few hundred under that mark for the first year. This way you’ll guarantee that you can fulfill your monthly obligations and make your payments on time and help to improve your credit score instead of lowering it.
Robert Farrington is America’s Millennial Money Expert® and America’s Student Loan Debt Expert™, and the founder of The College Investor, a personal finance site dedicated to helping millennials escape student loan debt to start investing and building wealth for the future. You can learn more about him here.
He regularly writes about investing, student loan debt, and general personal finance topics geared towards anyone wanting to earn more, get out of debt, and start building wealth for the future.
He has been quoted in major publications including the New York Times, Washington Post, Fox, ABC, NBC, and more. He is also a regular contributor to Forbes.