How to Understand Credit Scores

Last month, you read that credit was a loan that must be paid back over time. Credit can be very helpful when making purchases, such as a home or a car. Credit also can be a challenge if you don’t use it properly—meaning if you don’t pay it back in a timely manner. If you aren’t responsible with your credit, not only will you pay more for your purchases in the end, but you’ll also hurt your credit score.

A credit score is a number used to evaluate financial risk. It measures how likely you are to pay back your debt. When you apply for a loan, one of the first things a financial lender will check is your credit score. That lender wants to be sure that you will pay back your loan on time.

You won’t have a credit score until you take out your first loan or credit card — but once you’ve established credit, make sure you treat it with care.

Building a Good Credit Score

Credit scores range from 300-900. Just like a test score, the higher the number, the better the score. Here are some things you can do to build a good credit score:

• 1) Proper use – Pay your bill on time and in full.
• 2) Low balance – Use only 25% or less of your available credit. For example, if you have a credit card with $500 available credit, try to keep your balance of debt at $125 or less.
• 3) Employment – Your job history will affect your score. If you are employed consistently, then you are more likely to pay your bill and are less of a risk.
• 4) Time – The longer you’ve had time to build a good credit history, the higher your score. This can work against you if you abuse your credit card and start bad habits.
• 5) Credit Reports – A credit report is a complete financial history of your debt – past bills, payments, and total debt. You are able to get a free credit report from each of the major credit reporting bureaus once a year. The three credit reporting bureaus are Equifax, Experian, and TransUnion. This will help you know exactly what lines of credit you have and how well you’ve been paying off your loans. How do you find your credit score? You can visit the websites of any of the credit reporting bureaus mentioned above to get a free credit report, but you may have to pay to see your credit score. Some credit card companies also may provide this information for you. We recommend that you get advice from an adult to choose the best method for you.

Money:

Almost all credit card companies charge late fees if you don’t pay your bill on time. Some even raise your interest rate if you pay late. Randy learned this the hard way. We’re going to show you how much he would have saved had he paid one bill on time. Randy spent $40 on some sweet new shoes that were on sale for $50. He used his credit card because he didn’t actually have the money. He decided it was okay to use his credit card since he was going to save $10 on the shoes. The next month he got a statement showing his outstanding balance and requiring a minimum payment of $12. He forgot to pay it and was charged an additional $15 late fee. He paid the $15 late fee and the minimum amount due of $12 on his next statement. He now had spent $27, but his balance had only decreased to $28. He paid off the balance in full the following month.

Randy’s Payments: Challenge: Late fee $15 Minimum payment +$12Do you use a credit card? If so, what is your top expense?

$27 Let us know by emailing thevaultchallenge@bizkids.com Remaining balance ($40 – $12) +$28 with your answer. Total amount paid by Randy = $55 + interest

Tell Us

Because Randy decided to use credit and forgot to make Have you started your own business? We want to know! his first payment, he ended up spending around $55 (plus You could end up on our show or be profiled in a future a little bit of interest) on his new shoes. His missed payment edition of The Vault. Visit www.bizkids.com, and click on was reflected in his credit history and affected his credit s the “Show Us Your Stuff” link to submit your info. core. In addition, the credit card company raised his interest rate because he had missed his payment and they thought lending him money was more of a risk than they had before.

Fun Factoid:

The state with the best average credit score is Minnesota with a score of 721, according to www.nationalscoreindex.com. Check out the interactive map to find how your state rates. Most credit scores range between 300 and 900. A score below 500 is considered to be very bad; below 619 is poor; from 620-680 is okay; 680-699 is good; and above 700 is excellent.

What Are Teens Doing?

According to the 2007 JA Interprise Poll™ focusing on personal finance, of teenagers with credit cards, “only 2.4% admitted to occasionally skipping payments.”

To make sure you know what you’re doing with credit, take the JA Credit Card Quiz online at www.japersonalfinance.com/gsjapf/activities/quiz.jsp?key=Activity4Quiz.

Real BizKid$

M1 Designs – Chris Walsh and Blake Blair Seattle, Washington

Chris and Blake, both juniors in high school, realized they could turn their artistic abilities into a business.

They started painting cool designs on sneakers and their friends’ Xboxes, and then grew their business to include T-shirts. To grow their design business, they had to take a loan from Blake’s dad, who made the boys sign a contract and agree to pay him back with a little interest. It was their first experience with credit, and they learned there’s a lot more pressure to building a successful business when you have to pay someone back. Check out their website at www.maneone.com

Nick Barr Fishing Guide Lacey, Washington

Nick has been a bass fishing enthusiast ever since he was a little boy. When he was 14, he started a business as a fishing guide by borrowing money from his grandparents, who took out a loan on Nick’s behalf. Nick researched loans for his grandparents from a variety of institutions and finally chose his local credit union. He used this money to purchase a boat and fishing equipment. Nick’s goal is to build his name and reputation into a brand synonymous with bass fishing. As long as he maintains his good credit, he’s off to a great start.

What is the difference between cash and credit? Cash is money that you can hold in your hand, or have in your account. You can feel it, see it, and spend or save it. Credit is money loaned to you through a financial institution, such as a bank, credit union, or credit card company. You don’t see or touch it, but it is accounted for on paper just like your cash.

When a financial institution extends a line of credit, it is saying that it will lend you money for a set period of time. As the borrower, you must pay the financial institution back within this time period, plus pay an additional fee called interest for the privilege of borrowing the money.

Check out some different types of credit:

1) Loan from a credit union or bank: Financial institutions provide a variety of loans for things like buying a car or starting a business.

2) Loan from a relative: This is a loan from a real person you know. Let’s say it’s your brother. If you see a game for sale but don’t have the $20 cash to spend right away, you could borrow the money from your brother. Just like a loan from a credit union, you need to pay back any money you borrow from a relative or friend, whether it’s the next day or after you get paid for babysitting later in the month.

3) Credit cards: Most people think of credit cards when they hear the word “credit.” A credit card is a tool you can use to pay for things, but it’s paid off on a monthly basis. Credit card loans usually are smaller than a loan from a financial institution. It’s important to pay your credit card balance each month; otherwise, you will have to pay the credit card company additional money

in the form of interest. Suddenly, that new shirt might cost $40 rather than $30!

No matter what type of credit you choose to use, you need to be careful and pay it back in a timely manner so you don’t have to pay extra fees. If you choose to use cash, you just pay the vendor directly without any additional costs.

Looking to learn a bit more about credit? Check out the JA Student Center at www.japersonalfinance.com/gsjapf/activities/page3.jsp?key=Activity4Page1.

Money:

Amy wanted to get a small business loan to help start her knitting business. Instead, her father offered to loan her the $500 she needed at a 5% interest rate. She decided to take him up on the offer since it was a much lower interest rate than any financial institution was willing to offer her.

Terms on her loan were 5% interest annually‚Äîmeaning she’d owe that after the first year. The personal loan Amy received through her father would cost her an extra $25 if she didn’t pay it off during the first year. To calculate the interest, we used this formula:

A = Amount of Loan A x I = O I = Interest Percentage $500 x .05 = $25 O = Amount Owed in Interest

Amy worked very hard to create an online store to sell her knit hats and scarves. Instead of paying her loan off little by little each month, she reinvested most of her profits into the business. She also put aside some of her profits every month in a savings account and, at the end of the year, had enough to pay off her loan in full.

Real BizKid$

Spencer’s Bath Salts, Seattle, Washington

Spencer Brooks, 17, was inspired to start his bath salts company as a way to help his mom, who had survived a terrible car accident. He responded to her wish to eliminate pain medications by coming up with a more natural solution. Spencer researched which essential oils had the most effective healing properties and developed his unique bath salts. With the help of his mom, Spencer opened a bank credit card to help with purchasing supplies. Spencer is really careful about how he uses his credit card— -using it only for business and not for personal purchases.

Cattle Rancher Clay, Witchita, Kansas

Clay Toews, 14, acquired a loan through his local credit union to raise registered cattle on his family’s ranch. With his parents’ help, Clay secured a $10,000 line of credit to use for his business. Clay currently owns about 25 head of cattle and makes $10,000 a year selling them at stock shows. To avoid penalties and to maintain a good credit score, Clay always makes his payments on time. Having good credit now can mean a larger herd later!

Fun Factoid:

In America, credit cards were first used to buy fuel in the 1920s. The first charge card designed to pay for products and services from many different types of businesses was invented in 1950 by The Diners Club, the first independent credit card company. American Express followed, and by 1958, Visa provided even more credit card options.

What Are Teens Doing? According to the 2007 JA Interprise Poll‚Ñ¢ focusing on personal finance, “of teens having credit cards, 66.4% reported paying their balance in full each month.” and, the most frequently charged item for teens was clothing (62.8%), followed by gas (51.9%).

Challenge:

Do you use credit? Tell us how by emailing thevaultchallenge@bizkids.com with your answer.

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