Credit cards and other forms of credit involve borrowing money and paying it back at a later date. Credit can be a convenient alternative for purchasing goods and services, but it can be costly. It is important to understand the basics of credit use and credit scores to be financially responsible.
How do Credit Cards Work?
Credit cards allow a consumer to borrow funds up to a specified credit limit, with interest accruing on money spent that is not paid back by the end of the month. The interest rates on credit cards are often very high; when you make minimum required payments on a credit card, a large proportion goes toward interest and not the principal. Paying back the full balance each month will allow you to avoid interest charges and improve your credit history.
What is a Credit Score?
A credit score, also called a FICO score, is a number calculated by credit reporting agencies that is an estimate of the risk you pose to lenders. Credit scores range from 300 to 850. A high credit score will make lenders more willing to give you new credit and loans at favorable rates, while those with low credit scores may have difficulty getting approved for credit and loans.
What Goes into a Credit Score?
Several things affect a credit score. Your payment history -- paying on time -- is the most important factor in determining a credit score. The amount of credit available to you vs.your total credit debt is the second most important factor. Other factors include the length of your credit history, the types of accounts you hold and how much new credit you have received recently.
What Hurts and Helps my Credit Score?
Making debt payments on time and carrying a low balance of debt vs. your total credit limit will help your credit score. A long credit history and avoiding new debts will also tend to help your credit score. Foreclosure and bankruptcy can severely harm a credit score. Co-signing a loan (agreeing to pay a loan if someone else doesn't pay) will also tend to hurt your credit score.
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