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Build Credit and Control Debt

Build Credit and Control Debt

How will you invest your savings?

If you haven’t yet, read about saving and investing in Chapter 3, before learning about building credit and controlling debt.

Your Credit History Is Important

It’s difficult to pay cash for your car, home and college education, so these are typically bought using credit. That is why it’s important to have a plan to build and maintain a good credit history. Good credit saves money; bad credit costs money. Think of credit as a tool to be used wisely. Employers, landlords and insurance companies may use credit history to determine whether you are a good risk. A good credit history will result in getting the lowest interest rates for loans and other services, which will put you in a better position to increase your savings and increase your wealth.

Remember the definition of net worth (wealth)?


Liabilities are debts. Debt reduces net worth. Plus, the interest you pay on debt, including credit card debt, is money that cannot be saved or invested—it’s just gone.

If credit is not used wisely, debt can easily get out of hand and may result in late payments. The most important part of your credit history is your track record of paying your bills on time.

Know What Creditors Say About You

If you have used credit, you will have a credit report that shows everything about your payment history, such as any late payments. When making the decision whether to extend credit, lenders use credit reports, credit scores and other information, such as employment and income history.

What’s on Your Credit Report?

Consumers have the right to receive annually a free copy of their credit report from each of the three major credit reporting companies:







These three nationwide consumer credit reporting companies have set up a toll-free telephone number and one central website for ordering free reports:

The information in your credit report is used to create your credit score. (For a small fee, you can get your credit score from any of the three credit reporting companies or from The higher your score, the less risk you represent to the lender.

A credit report that includes late payments, delinquencies or defaults will result in a low credit score and could cause you to have to pay higher interest rates or be declined altogether. The most important factor in a credit score is the payment history. This history shows whether payments were made on time or late. Recent delinquent payments are more damaging, compared with late payments from many years past.

Also, the severity of the delinquency is a factor. For example, a payment made 30 days late has less impact on your credit score than a payment made 60 days late.

Another major factor in the credit score calculation is the amount owed on credit accounts. A recommended guideline is to keep your balance at less than half the total credit available on the credit line. This utilization rate is an important factor in the credit score calculation.

Factors not considered in a credit score include age, race or ethnicity, income, job, marital status, education, length of time at your current address and whether you own or rent your home.

An important first step in getting the credit you deserve is to check your credit report. Review your credit report at least once a year to make sure all information is accurate. If you find an error, the Fair Credit Reporting Act requires credit reporting companies and those reporting information to them to correct the mistake.

Beware of credit repair services that claim they can erase your bad credit. Many of these are scams. There’s no quick fix, but you can improve your credit with time and effort and dedication to your plan.

Know the Score

  • The Federal Reserve Board publishes a guide to credit reports and scores for consumers:
  • The Federal Trade Commission outlines the steps to dispute credit report information and has a sample dispute letter available at

Building Your Credit

But how do you establish a credit history if you’ve never used credit?

Consider a secured credit card. This type of card will require a deposit, usually equal to your credit limit. After you have used the secured credit card for a year or more, never maxing out your credit and always paying on time, the credit card provider will typically offer an unsecured card.

Another type of starter account may be a retail store card or gas card. Before you apply, make sure the card provider will report payments to the credit reporting companies. Some cards, such as prepaid debit cards, do not report payments to the credit reporting companies.

If you decide you no longer need a credit account, pay it off and stop using it, but don’t close the account. You need those older accounts to show you have a long history of paying on time.

Tip: Building Good Credit

  • Develop a budget and stick to it. Getting a new credit card does not mean you have more income.
  • Save money so you’re prepared for a rainy day. Three to six months of living expenses are recommended.
  • Pay your bills on time.
  • Keep your credit card balances low or aim to pay them off monthly.
  • Check your credit reports annually and dispute any incorrect information.

Taking on Debt

A big part of building wealth is making wise choices about credit and debt. Keep in mind your bottom line, your net worth, when making decisions about credit.

Remember, AssetsLiabilities = Net Worth, so when you take on additional debt, you’re reducing your net worth. Ask yourself, “Am I building wealth and increasing my net worth, or am I building debt and reducing my net worth?”

Are you ready to take on a credit obligation?

If you don’t have a budget, or spending plan, you’re not ready to take on debt. Before you take on credit obligations, it’s very important to have a good foundation, including your emergency savings, a budget, your financial records and goals, and insurance to protect your assets. See the Investment Pyramid. Do you have a strong financial foundation?

The Tale of Two Spenders and the New TV

Remember Sonya? She saved up for the “extras.” When she had enough money in her savings account, she bought a new TV for $1,500. She paid cash.

Her friend Vince is an impulsive spender. He seeks immediate gratification using his credit cards, not realizing how much extra it costs. Vince bought the same TV for $1,500 but financed it on a store credit card with an annual interest rate of 22 percent. At $50 a month, it took him almost four years to pay off the balance.

While Sonya paid only $1,500 for her new TV, Vince paid $2,200—the cost of the TV plus interest. Vince not only paid an extra $700, he lost the opportunity to invest the $700 in building his wealth.

Understanding Interest Costs

Doers, like Sonya, are smart about using credit cards as a tool. When doers use credit, they pay off their balances every month. When a credit card balance is not paid off monthly, it means paying interest—often 20 percent or more a year—on everything purchased. This is compound interest that you pay. It’s not the magical kind of compound interest that builds wealth; that’s the compound interest that you earn.

When you get credit, a loan or a credit card, you repay the principal, which is the amount borrowed, plus interest, the amount charged for lending you the money.

Cost of credit

Before you borrow, learn everything about the loan, including interest rate, annual percentage rate (APR), finance charges, fees and penalties for late payment or early repayment.

Remember, your credit score determines your cost of credit.

Take Steps to Control Your Debt

To manage debt, you need to know how much you have and develop strategies to control it.

See how the people of Building Wealth took steps to manage debt by looking at their credit card balances and interest rates.

  • Anthony
  • Bess
  • David
  • Gabby
  • Sonya
  • Vince

When Anthony decided to reduce his $3,000 credit card debt, he analyzed his debt, developed a strategy and took action:

  • He checked his credit report on
  • He called his credit card company to ask for a lower interest rate.
  • He put his credit card on auto pay to avoid late payments.

What is your credit card debt situation?

Using Anthony’s debt situation as an example, complete your own online, or download a spreadsheet or PDF of the blank debt strategy sheet.

example web xls pdf

Bess makes sure she uses her one credit card as a matter of convenience only and pays off her credit card bill every month, so her strategy for minimizing credit card debt is to continue her existing habits.

She will also continue to check her credit report on

What is your credit card debt situation?

Using Bess’s debt situation as an example, complete your own online, or download a spreadsheet or PDF.

example web xls pdf

When David decided to reduce his $14,500 credit card debt, he analyzed his debt, developed a strategy and took action:

  • He and his wife realized they could pay off debt faster, and save more money to reach their goals, if they pay off the high-interest-rate balance first.
  • The couple plan to discuss their progress on staying within their budget every week.
  • They will check their credit on to make sure everything on the report is accurate.

What is your credit card debt situation?

Using David’s debt situation as an example, complete your own online, or download a spreadsheet or PDF.

example web xls pdf

When Gabby decided to reduce her $5,600 credit card debt, she analyzed her debt, developed a strategy and took action:

  • She checked her credit report on and realized she needed to improve her credit.
  • She decided to pay an extra $100 a month on her highest-interest-rate card.
  • She decided to use only the lowest-interest-rate card from now on.
  • After reducing balances, she will apply for a new card with lower interest rate.

What is your credit card debt situation?

Using Gabby’s debt situation as an example, complete your own online, or download a spreadsheet or PDF.

example web xls pdf

Sonya is careful to pay off her one credit card every month, so her strategy for minimizing credit card debt is to continue her existing habits.

She will also continue to check her credit report on

What is your credit card debt situation?

Using Sonya’s debt situation as an example, complete your own online, or download a spreadsheet or PDF.

example web xls pdf

When Vince decided to reduce his $3,500 credit card debt, he analyzed his debt, developed a strategy and took action:

  • He checked his credit report on and realized he needed to improve his credit.
  • He shopped for the best rate on a new major credit card. Then he transferred all his balances to that card.
  • He cut up the other credit cards and used the interest he saved to pay down his principal balance sooner.

What is your credit card debt situation?

Using Vince’s debt situation as an example, complete your own online, or download a spreadsheet or PDF.

example web xls pdf

Complete your own online

Save Money by Choosing the Right Loan

If you have good credit, you may want to take out a loan to purchase a car or a house or to cover educational expenses—all are investments in the future. But regardless of how the money is spent, a loan is a liability, or debt, and decreases your wealth. So choose loans carefully.

Shop and negotiate for the lowest interest rate

The interest you save can be invested to build wealth. Take a look at the table. It may be obvious which lender will charge the lowest interest. What’s not obvious is that your credit score may determine which interest rate you are offered.

  • Obtain your credit score well before you plan to apply for a loan.
  • Use an online auto loan calculator to compare rates. You can save interest expense by increasing your monthly payments or choosing a shorter payment term on your loans.

The table also shows how shorter terms with higher payments would affect the total amount and interest on a $15,000 car loan.

Beware of High-Cost Credit

People can get deep in debt when they take out a loan against their paycheck or car title. These loans generally come with very high, double-digit interest rates. For example, borrowers may write a postdated check in exchange for money. When they get paid again, they repay the loan, thus the name payday loan. Borrowers who can’t repay the money are charged additional fees for an extension, which puts them even deeper in debt. Borrowers can continue to pay fees to extend the loan’s due date indefinitely, only to find they are getting deeper in debt because of the steep interest payments and fees.

Predatory lenders often target seniors and low-income people they contact by phone, mail or in person. After her husband died, 73-year-old Bess needed financial help and fell victim to a predatory lender. Bess was struggling to make ends meet on her fixed income. To pay off her bills, she took out a $5,000 loan that carried a high interest rate and excessive fees. Soon Bess found she was even deeper in debt, so she refinanced the loan once, then again, and again, paying fees each time.

Bess’s children discovered her situation and paid off the loan.

Tip: Borrowing

  • Don’t borrow from Peter to pay Paul.
  • Never respond to a solicitation that makes borrowing sound easy and cheap.
  • Always read the fine print on any loan application.
  • Seek assistance from family members, local nonprofit credit counseling services or others to make sure a loan is right for you.

Keep Your Good Name

Every month, go back to your budget and plan carefully to ensure your bills are paid before their due dates. Setting up direct deposit and putting bills on auto debit can help you keep your good name. Sonya, the doer, makes sure she pays her bills on time. Sonya gets paid twice a month. She has her paycheck set up for direct deposit so she doesn’t have to scramble to get to the bank on payday. With her first paycheck each month, she pays her mortgage (which she has set up on auto debit), cable TV and utility bills. Out of the second check, Sonya makes her car payment (also on auto debit) and has a monthly deposit automatically made to her savings account. Sonya has found that “autopilot” really simplifies budgeting and saving.

Guard Your Identity

Just as you protect the security of your home with locks for your windows and doors, you should take steps to protect your identity. Secure your financial records, Social Security number and card, account numbers, and all passwords and PINs (personal identification numbers). A periodic check of your credit report can alert you if someone is illegally using credit products in your name. If you suspect unauthorized access, contact the three major credit reporting companies and place a fraud alert on your name and Social Security number.

Tip: Protect Your Identity

  • Shred or destroy your bank and credit card statements and all other private records before tossing them in the trash.
  • Give out your Social Security number only when absolutely necessary, and never carry both your Social Security card and driver’s license in your wallet.
  • Pick up mail promptly from your mailbox, and never leave outgoing mail with paid bills in an unsecured mailbox.
  • Don’t give out personal information on the phone, through the mail or on the Internet unless you’re sure you know with whom you’re dealing.

You increase assets and decrease liabilities to build wealth.
How do you protect it?