How I learned to stop worrying about my credit and love plastic

Many millennials have opted out of the American dream of owning a house and filling it with stuff they can’t afford.  Perhaps you’ve decided that paying cash is a more responsible personal finance habit.  You may have looked at the wasteful spending habits if your friends and decided not to tempt yourself with a credit card.  Some friends have left university deeply in student loan and credit card debt, and decided to simply ignore it, hoping that it will be forgotten by the time they need to borrow money.

Whether you’ve decided that you don’t need credit cards in your life, or stick to a single card you got in college, you’re making a big mistake.  You need a proactive credit-building strategy.

There are many useful benefits to credit cards:

• Consumer protection:  If you want to dispute a charge, credit cards offer far more protection than debit cards.  In some cases, card issuers actively investigate my cases even after pushback from the seller until I was satisfied.  You’re unlikely to get the same treatment from a bank.
• Benefits: Many credit cards reward you for using them – with sign up bonuses, cash back, or travel points.  They may also provide insurance on purchases, price matches, a concierge service, or many other perks.
• Emergency fund: In an emergency, credit cards offer immediate access to funds.  Sometimes it’s better to go into debt than  me unable to pay for urgent auto or medical expenses.
• Cash flow flexibility: Credit cards allow me to separate by outgoing and incoming flows.  Though I pay off the balance every month, I only keep a bare minimum in my checking account.  Because all my purchases go on a credit card, I can buy what I need without worrying whether I have to cashout my investments to pay for it.
• Travel: When traveling overseas, credit cards offer many benefits: one of my cards offers free international purchases – most debit cards charge 3%.  They will express me new cards if my wallet is stolen, help me find the service I want in almost any country, and provide car rental insurance, trip interruption insurance, and more.
• Building a credit history: credit cards the the primary method to build a credit history. If you don’t trust yourself with credit, why should anyone else? For more, read on:

Three myths about credit cards and personal credit

Myth #1: I don’t need to care about my credit if I don’t need any loans

While getting out of debt is harder than building up a credit history from scratch, both can cause serious problems even if you don’t need to borrow money anytime soon:

• Your credit history may be used when reviewing job applications, setting your auto insurance rate, evaluating apartment rental applications and the deposit amount, applying for a cellular contract, and much more.
• Even if you don’t plan to take out a loan for many years, the longer your credit history, the higher your score, so it pays to start early.
• Higher credit scores qualify you for lower interest and insurance rates, which can save a lot of money.
• If you ever start a business and need a business loan, you need a personal credit history for business loans, purchases on credit, etc.

Your credit record is not a single number, as competing scores and versions of scores are used by different institutions.  Furthermore, banks will combine your public credit record with proprietary information to derive a custom score used to make decisions.  Building a good credit history focus each category in your credit record: paying bills on time, building a diverse credit history, and growing your available credit.

Myth #2 I need to take out a loan or keep a credit balance to build up a credit history

This is the most common bad advice you may have heard about credit.  When lenders decide whether to give your credit, they don’t care how much money you made other banks.  They only care whether you will cost them money – the chance that you will not repay your debts.  To prove that you are a good credit risk, you just need a history of financial responsibility.  A history of payments for mortgage, auto, or a student loan will improve your score, but it is not needed – I have an “excellent” credit score, and I’ve never paid interest for a debt.

Here is how to get a great credit score:

Step 1: Monitor your credit history

Begin by getting your credit score from CreditKarma.com, Wallethub.com, or Capital One Credit Wise These free services will show your latest credit score as often as every day, and alert you to any changes from their smartphone apps.  Your goal is to get an “Excellent” score for each “important” credit factor:

Step 2: Apply for a credit card if you don’t have one:

If you’ve never had a card before, check if your bank has a credit card.  NerdWallet has a review of 1700 cards.  The variety of cards on offer is overwhelming, and many people simply get the card offers they get in the mail.  That’s usually a mistake – the credit offers I get in the mail are always worse than the cards I selected through research.  Also, if you accept all the offers you see just for their sign-up benefits, you will end up spending much more than you intended.  Use a guide to pick a card suitable for your life situation.

Here’s some basic advice for different credit situations:

• Poor or no credit: Get a secured no-fee card such as the Discover it® Secured Card.
• OK credit: Chase Freedom (5% back on revolving categories)
• Great credit: Blue Cash Everyday Card from American Express ($300 for signing up and 1-3% back) or Citi Double Cash Card (2% back on everything).

Personally, I use six cards with the Wallaby Mobile App, which detects when I’m visiting a store or restaurant and suggests the best card to use.  I get 5% back for many of my purchases, as well as benefits such as roadside service, free travel and theft insurance, no-fee foreign transactions, and a personal concierge to help with difficult purchases and resolving disputes.  When used responsibly, credit cards are actually pretty useful!

Step 3: Set up auto-pay to pay cards in full every month

The first thing I do when I get a new credit card is set up auto-pay to pay the amount in full each month. As explained above, keeping a balance won’t help your credit record.  In fact, it will lower your credit score by raising your credit utilization and you will pay a fortune in interest payments.

This advice goes for all other services and utilities as well.   Set up auto-pay and never worry about due dates.  For services which do not support direct debit, use bill pay service through your bank or Mint Bills, so you can pay them online with one click.

Step 4: Build your credit over time

Once you have a positive credit record, you can apply for new cards and increase the credit limit on existing ones.  Your credit utilization (the percentage of available credit that you’ve used) is a major factor in your credit score, so as long as you can use credit responsibly, increase it by occasionally applying for new card and requesting increases.  Cards with the best benefits typically require excellent credit, and it will take some time to build a suitable credit history.   While I’ve heard advice suggesting a six month wait between credit requests, in the last month, I asked for four credit increases this month, for up to 3X my previous credit limit, and was approved with only one hard credit pull.  

Myth #3: Credit card issuers want you deeply in debt so they can make money on fees and interest

Probably the main reason why people avoid credit cards is that they have a sleazy reputation for suckering people into unsustainable debt by leading them to buy stuff they can’t afford.   This is no doubt a serious problem for many people.   Yet people have been borrowing money to buy things they can’t afford as long as money has existed.   

The main source of income for credit card companies are transaction fees collected from merchants for credit card charges, not interest or fees.  Interest and fees are an important, but secondary source of income to them.   Sure, they would love for you to keep a balance, occasionally forget to pay the bill, and pay a bunch of fees.  Keep in mind though, that everyone loses when people can’t pay for their debts and have to have them written off.  Credit cards and banks want you to be financially successful and only a little bit irresponsible, not bankrupt.

The wide availability of consumer credit is a great innovation:  for the first time in history, most people in the developed world can buy goods and services on credit, just by swiping a plastic card.  The credit system is not perfect, but for the most part, it is fair, transparent, and convenient.   It’s certainly better than borrowing money from friends, family, or loan sharks.  Bad credit sucks, but at least no one will break your legs over it, and unlike a relationship destroyed by money between friends, you can recover from bad credit just by improving your financial habits.