Have you ever wondered what all the buzz is about when people talk about building credit? Maybe you heard your parents mention it while you were growing up. Maybe you’ve just heard it in passing from random strangers talking. Either way, your credit is a very important piece to the wealth building puzzle.
Building credit gives you more flexibility when it comes to how you live your life financially. You will be able to acquire more wants and needs if you have a good standing credit so it is very important to ensure that you build it up.
What Exactly is Credit?
Credit is the ability of a consumer to obtain goods or services before payment, based on the trust that payment will be made in the future. You might be thinking, well what does that mean for me exactly?
Let’s think about how you interact with other people on a day-to-day basis. If you are a nice, respectful, and positive person then others will want to be around you more often, right? You have a great reputation, and the way others look at you reflects that.
This works the same way when it comes to your financial life as well. Think of credit as your financial reputation. It is essentially a range of how trustworthy someone is when they are borrowing something from someone else. Simply put, if you are the type of person that will always pay someone back on time and are smart with your money you will have good credit.
What is a credit score and where does it come from?
Just like a social reputation, your financial reputation also precedes you. However, there isn’t a numerical value assigned to your social reputation. Your financial reputation is assigned a value to calculate how trustworthy you are to strangers who you’ve never met. This is where a credit score comes from.
Your credit score rates you on how responsible you are with money and predicts how well you would be at paying someone back if they loaned you something. The higher your score, the more willing banks and other lenders will be to lend you money. Of the many ways your credit score is built, here are the biggest factors:
- On time payment history
- Length of credit history
- How much available credit you have used and not paid back
- How often you have you credit checked by a lender
Related: Factors that affect your credit score
Why Building Credit is Important
After all this information you might be wondering what happens if you build up your credit to a respectable status. We know that building your credit score up communicates to banks and lenders that you’re trustworthy. But that’s just the introduction.
Having good credit opens up incredible opportunities for you to achieve your goals and dreams. We’re not exaggerating here. Building your credit allows you to purchase things you couldn’t normally afford with cash alone.
Do you have enough money to buy a car? Maybe. But what if you could pay a small sliver of the cost over a multiple year period? Sounds more reasonable.
Related: How to Budget in your 20s
Do you have enough money to purchase your dream house with the cash in your bank account? Since houses are worth hundreds of thousands of dollars I would guess probably not. But what if you could pay a small portion of the cost initially and agree to pay small amounts every month for half your lifetime? Again, sounds more reasonable, right?
Now, of course this is all assuming you can afford to pay the remaining balance over the specified range of time in the form of incremental payments. Understanding what your budget looks like and how much you can or are willing to pay monthly or annually is critical.
Building credit opens up opportunities
If you haven’t built up good standing credit, then you might not have the chance to buy that car, purchase that dream home, start a business, or invest in other assets like real estate. Plus, if we’re talking about investing in assets, the earlier the better due to the power of compound interest.
You can utilize borrowing money to your advantage and create smart, lucrative investments without having to fork over a fortune. This a great way to increase your net worth and grow your wealth using someone else’s money. So, what do you think? It’s time to start building credit and give yourself a large array of opportunities in your future!
