How Credit Works
Cause and Effect: How Does A Good or Bad Credit Score Impact Your Life?
In our last “How Credit Works” post, we discussed some important actions you can take to improve and maintain your credit score. Today, let’s take a brief delve into the “Why?”
What’s the point of focusing all of this energy into these three little numbers that make up your FICO credit scores? Why not just worry about all of the other numbers we are judged on, like our Rank, or our weight, or Facebook friends, or Instagram likes, or income level, or a plethora of other societal measures that let us know how awesome we are? Well, I’m not here to debate the effect of those numbers on your quality of life, because they all matter to someone. However, I can say explicitly that having a great credit score will save you money and having a bad one will cost you greatly. To illustrate, allow me to share this real life parable, based on two brothers I know very well.
The Prodigal Recruit
Miguel and Juan are two great guys that I know. Miguel is older, got good grades in school, went on to get a Finance degree and eventually an MBA, and today works in banking. He was lucky to have the education and experience necessary to understand the importance of using credit responsibly. He has bought and paid off two cars, uses his credit cards to buy everything yet never keeps a balance month to month, and has mortgages on two properties he’s acquired. Never once has he missed a payment (he credits auto-deductions for that, and swears that you should have one ANY time they are available). Juan, his little brother, however, took a very different route. He consistently over drafted his checking account, bought a ring for the girl of his dreams (one of them, I should say) and never paid it off, and while enlisted in the Army he deployed to Afghanistan with all kinds of debts outstanding, which turned into collections on his credit report.
Now if you’re familiar with the Prodigal Son from the Bible, you know that with a little help he eventually turns it all around, right? Well, in this case, it took a LOT of work, not just a check from Dad. Today, when Miguel wants a credit card, he gets one. Banks fight over his business, and give him THE best rates and terms. He has never paid a dime of interest on his credit cards. And never once has he had to worry about opening, closing or paying fees on a checking account. Juan, however, couldn't get a loan to save his life…and I almost mean that literally. After his Honorable Discharge, when he and his wife NEEDED a place to live, both apartment managers and mortgage companies denied him repeatedly. He still has collection agencies calling about that ring balance he owes, and just getting a new checking account open to start his direct deposit caused him hours of effort. These are real consequences! He has to pay extra for a used car because he can’t get bank financing. Whereas Miguel can put $0 down and drive off with a brand new shiny Jeep for $299/month, Juan had to put $2000 down in cash and take an astronomical interest rate on an $8000 loan, all for a $7000 dodge truck that was almost as old as he was. We call that a “net loss”.
These two guys are both great people, and have become responsible adults who take care of their households. Not everything these days is easier for Miguel than for Juan, but anything related to financing certainly is (except for the fact that when Juan needs a co-signor, guess who he calls!). And, not all is lost. After YEARS of work, we are close to getting Juan qualified to buy his first home using his VA benefits! Fingers crossed. Until next time!
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