Chapter Five: Creditors and the Games They Play
Credit is the term used to describe the act of lending money to someone, and it is big business. Don’t ever think a company is offering you a credit card because they truly want to help you learn about managing credit, or because they want to do you some sort of favor. This is how many credit card companies market themselves to young people. Offering credit is a money-making venture, and it has nothing to do with trying to help people. It is all about making a profit.
This doesn’t mean that creditors are evil or mean; it just means that creditors make their money by getting you to spend yours. In the vast majority of instances, creditors aren’t doing anything illegal. They are merely offering a product to consumers and earning money when the consumers utilize the product. If you have heard your parents or other people say that “banks are evil” or “credit card companies aren’t fair,” these adults may just be frustrated about credit as a whole. Credit card companies aren’t evil — they’re just out to make as much money as possible.
The Principles of Credit
So what is credit? Credit involves lending money to someone and expecting the money to get paid back eventually. For example, if your mother lets you borrow $20 but specifies that she wants it paid back within a week, she is extending credit to you by offering you a loan. In other words, she assumes that the $20 is a safe loan because she assumes you will pay it back. If you don’t pay it back by the deadline, she may give you some sort of penalty — like not lending you money the next time you ask, or giving you extra chores to make up for the money. This is similar to what creditors do. They lend you money that they believe you will pay back in a timely manner, and if you don’t pay back the money when you should, you wind up paying extra.
There is usually a cost involved with using credit, whether it’s through fees or interest. Don’t confuse interest you pay to a credit card company with the interest you earn from a savings account. It is very different. You already know that interest earned on a savings account can be compared to a “thank you” from the financial institution for allowing them access to your money. Interest charged on credit accounts, on the other hand, is more like a “thank you” that you pay the creditor for giving you access to the money on your credit card. Remember: Credit is a type of loan given to you by the creditor. Creditors charge interest as a way of making a profit on the money they are lending you. The interest you are charged on your credit account can pile up quickly because compound interest applies with credit interest just as it does with interest you earn from a savings account. Do you remember compound interest from the section about savings accounts in Chapter 3? If not, review this section again. While compound interest is great when involved with savings accounts, it isn’t so great when dealing with credit accounts. The interest builds up quickly, and with a credit account, you have to pay that interest back. In other words, the longer you take to pay off your credit card balance, the more interest your account will accumulate, and the more money you will wind up paying in the long run.
Fees come in many different forms, but can be summed up as extra expenses added to the balance you owe but are not a direct result of a purchase you make. For example, suppose you use a credit card to buy a jacket at a clothing store. The credit limit on your card is $200, but the jacket costs $225. You decide to buy the jacket, even though it costs $25 more than you have available on your card. The purchase goes through, but your credit card company adds a fee to your balance as a penalty for spending more than your credit limit. In this example, if the over-the-limit fee is $20, your credit card balance will then be $245, which is the cost of the jacket ($225) plus the fee added by the credit card company ($20).
Fees don’t just come in the form of penalties. Some credit cards companies charge fees for routine maintenance to your account, such as submitting an application for the card in the first place. Other fees that you may run into are monthly usage fees, annual fees, and fees for speaking to customer service representatives at the credit card company for issues that you might be able to solve using an automated system (either over the phone or using the computer). The good news is that credit card companies are required to explain every fee to you in a terms and conditions brochure. This document is usually mailed when you receive your new card and available online, and it explains every instance that may potentially result in an extra fee. For this reason, you cannot claim that you didn’t know something would result in a fee. The bad news is that some creditors charge fees for far too many things. Do you want a copy of your statement? Get ready to pay a fee. Do you need another card because yours went through the washing machine? You’ll pay a fee. Always keep in mind that credit card companies, along with all the other types of creditors, are involved in money-making ventures. Remember: Creditors earn money when they charge you interest and fees. If they can legally charge you a fee for something, they will probably try. Luckily, credit card laws are evolving, and it is becoming more difficult for lenders to charge really high fees. This won’t, however, stop these companies from charging all fees.
Common credit card fees include:
• Application fees: These are fees some credit card companies charge people for submitting an application for a credit card.
• Maintenance fees: These include annual or monthly fees charged for nothing more than having the account open and active. Not all credit cards have these fees, and you should avoid cards with them if possible.
• Penalty fees: These fees are charged when you do something with the account that you aren’t supposed to, such as making your payment late or exceeding your preset credit limit. These fees can add up quickly, so always make your payments on time, and don’t exceed your spending limit.
• Transaction fees: This includes fees for obtaining cash from your credit card instead of using the card for purchases or transferring one credit card balance to another card, which is called a balance transfer.
Because credit card fees can really add up, your parents may get upset with you if you misuse a credit card they have given you. They don’t want to pay a bunch of extra fees imposed by the credit card company on top of the balance you charge up. If you misuse a credit card given to you by a parent, your parents will wind up not only paying for whatever purchases you made, but also for any extra fees incurred because of the way you used the card. Of course, if they hold you responsible for your own spending, they won’t be the ones paying for all these extra fees — you will.
If you’re under 18, the time when you start acquiring your own credit cards and loans in your own name is right around the corner. It won’t be long before you are solely responsible for any credit you obtain without needing your parents’ permission. The more you learn about how credit works and how to manage your credit without losing all your money, the better.
If you are already of legal age to obtain credit, you have undoubtedly been approached by creditors looking to get you to apply — especially if you are a college student. Creditors love to offer credit to students for a few different reasons:
1. You may still get money from your parents, so if you get behind in your payments, they’ll probably help you out.
2. Because this may be your first time handling credit on your own, you are more likely to charge up the credit card quickly and pay a great deal in interest rate charges and fees. You will probably also accept a higher initial interest rate due to a lack of credit history.
3. If you complete your degree program and find a high-paying job, the credit card company is hoping you will remain a lifelong account holder.
This isn’t what the credit card companies will tell you, though. Instead, they will use tactics to lure you into applying for credit that you may not even need.
The Tactics
You already know that credit is big business, but you should also know that you are big business to creditors. It’s true; if they can lure you in at an early age, not only will they grab you when you may not have learned enough about managing credit to avoid extra fees and high interest rates, but they also hope to keep you as a customer for years to come.
Instead of falling prey to the marketing tactics used by creditors, learn how to spot the tactics beforehand so you aren’t tricked into getting credit you don’t really need.
Look out!
Creditors spend a lot of money on marketing and research to find out how to entice teenagers and college students into applying for a credit card, and the tactics they come up with extend far beyond the commercials you see on TV or the ads you see in online. By now, you probably realize you’re being advertised a product when you see commercials for credit cards. There may be times, however, when their marketing techniques are not so obvious. Remember, marketers spend hours researching nothing but ways to get you to spend your money — and their tactics may not be so easy to resist. If you are heading off to college, brace yourself; creditors will approach you left and right. Opportunities to apply for credit won’t only come in the mail; they’ll approach you while just walking down the street. If you aren’t old enough to apply for credit on your own yet, the same marketing tactics that will be used on you when you are an adult are probably already being used on you now. Credit card companies want to influence your thoughts and behavior now so you will want to apply for credit once you are able to. Look out for the following tactics because, oftentimes, these tactics are used by creditors not offering the best interest rates and terms with their credit. They often must resort to other tactics to entice applicants. These companies know that under normal circumstances, you wouldn’t want to apply for their card due to high interest rates and fees, so they have to figure out other ways to get your attention.
Here, have something for free
One day, you notice a table with a bunch of people around it, busily filling out some paperwork and talking with a really excited representative. Everyone walking away from the table leaves with a really cool shirt, hat, or some other item that probably features the local college’s mascot or some other design, making it look like the school is endorsing the promotion.
What form is everyone filling out so eagerly? The representative is someone who works for a credit card company, and the form is an application for a credit card. Fill out an application for a credit card, get a free shirt. It seems easy enough, and some students don’t even think they will wind up getting approved for the credit card to begin with, so getting a free shirt seems harmless enough. That free shirt, however, can cost you plenty if you get approved for the card and start using it. All the interest and fees you will wind up with will cost much more than the credit card company spent on the shirt. How much more? Think of it this way: The shirt probably cost the company less than a dollar to produce, but the credit card can potentially cost you hundreds (or even thousands) of dollars in the long run.
This tactic was once common on college campuses, but today, some colleges and universities do not allow credit card companies to advertise on campus. There were just too many instances of college students getting into serious trouble with debt, which affected their success as college students and, in turn, lowered the success and graduation rates of the institution. College leadership does not generally like companies coming to their campuses and wreaking havoc among the students, but for some colleges, it was a tough decision to make because credit card companies paid colleges a lot of money to be able to come on campus and offer credit cards to students. For this reason, don’t be surprised if you do run into something like this when you head off to college. While some college leaders don’t really like the idea of students falling deep into debt, they also don’t like the idea of losing money the credit card companies give them.
It isn’t only on college campuses where you might run into a table filled with credit card applications and free stuff. You might find the same tactic used at stores in the mall: Fill out an application, get a free backpack! Some charities will use this same tactic as well. For example, you might take a trip to the zoo and find a table outside the admission gate: Get a card, and a portion of your purchases will be donated to the animal foundation. The same often happens at restaurants where young adults frequently visit: Apply for a card, and get a free pizza. They want you to feel like you’re getting something for free, or you’re somehow helping out by applying for a credit card. Signs that say, “Show your school spirit with a mascot credit card!” shouldn’t make you want to apply for a credit card. Instead, they should make you laugh because you know racking up debt has nothing to do with school spirit.
This tactic doesn’t only come in the form of a table with a smiling representative. You might get applications in the mail promising you free stuff, or you might see site banners online meant to pique your interest. You shouldn’t apply for a credit card based on one promise or one advertisement. Instead, you should search among several different credit cards, and if the best one just so happens to offer a cool shirt or an automatic donation to your favorite school or charity, it’s a nice bonus. Keep in mind, though, that the best credit cards don’t really have to offer you anything like that in order to be the best option for you.
Here, let us help you
It can be tough when you are first trying to build credit. Some creditors just don’t want to take a chance on you because you don’t have any credit history at all. Not having credit history means you have not yet opened up any credit accounts in your name. Due to your lack of credit history, they don’t know whether you’re going to make payments on time, or if you’re going to be the type of customer they have to chase to get their money back. In fact, if you aren’t a college student and you don’t have any previous credit, you may have a really hard time getting approved for a decent deal on a credit card.
Credit card companies know young people often get turned down when they first start applying for credit, and they also know many young people are frustrated by this. For this reason, their marketing tactic is to try to appear as though they are out to help young people establish credit. They make promises such as “Let us help you establish credit!” or “We guarantee approval, even without a credit history!” They try to make it seem like they are looking out for your best interests, and helping you build credit is their main priority. While it may be true that their target consumers are young people who do not yet have credit, this does not mean they’re doing it out of the goodness of their hearts. They’re doing it because they have decided they can make the most money on young people who have little experience with responsibly managing their money. Credit card companies and other lenders are never your buddies. While it’s true that there are usually some very nice people who work for these companies, when their workday ends they really couldn’t care less whether you are overspending or getting in over your head. It’s their job to entice you to spend your money — and they get a bonus if you spend it with their company. It is highly unlikely the people who make the major decisions at these companies are really on some sort of mission to genuinely help people who need to establish credit. They’re out to make money, and that’s it.
You won’t just run into this situation with credit cards. Lenders for car loans commonly use this tactic, too, so don’t be surprised if you see signs at car dealerships that say things like “No Credit, No Problem!” or “Let Us Help You Get Financed!” Again, these lenders are out to make money. They’re not out to hold your hand and guide you toward financial independence. Don’t fall for it.
Here, buy anything you want
Most people like to have nice things, and you probably aren’t an exception to this rule. There is nothing wrong with wanting to have stylish clothes, the latest electronics, and a nice car, but there is something wrong with getting it all before you can afford it.
Credit card companies that market to young people know a large portion of young adults do not really understand the fundamentals of using credit, such as the fact that interest is charged on balances that aren’t paid off in full every time the credit card bill arrives. Instead of appealing to young people with promises of low interest rates or low fees, credit card companies try to appeal to young people’s desire to get all the nice things they want right now.
You will run into this a lot when you are shopping at a mall. Your favorite retailers will have signs up all over the store urging you to open up a credit card account and get access to money in the account instantly. This means you can apply for a credit card, get approved, and walk out of the store with a bag full of merchandise — without paying a dime out of your pocket. They may even offer you a 10 percent discount on the purchases you make that day only, enticing you to spend as much as you can right up front. What some people don’t realize, however, is that the bill for the purchase will show up soon and, if the balance is not paid in full before the due date, interest is going to start piling up.
Even if the store offers you a discount on your purchase, the discount you get won’t make much of a difference if you don’t pay the balance in full. If you only make the minimum payment required each month, you’ll get charged interest and fees that will probably cost much more than the discount you received for opening the account to begin with. Don’t assume because the card can only be used at one particular store that store credit cards are not as dangerous as Visa or MasterCard credit cards. You can still rack up significant debt using these cards, and if you don’t make your payments on time, they can still hurt your credit score.
If you get a little confused when reading about interest rates, discounts, fees, and how they all interact with each other, don’t worry; it can all be summed up in this simple statement: Don’t buy things you can’t afford. Don’t feel like you’re weird if you have strong feelings about wanting nice things — most people have these same desires. Even adults have these feelings. When it comes to your personal finances, though, you need to realize that instant credit can be an instant problem. Yes, you can get your hands on the things you want to have without having to shell out any money initially, but what happens when your bills start coming in? In fact, there are some people who will buy something with a credit card, use that item up, and discard it — and then still wind up paying on that same purchase long after they don’t even have the item anymore. Do you really want to take months (or perhaps years) to pay for a shirt you wore once and then gave away? Doesn’t it seem a little ridiculous to have to keep making payments for something that you don’t even own anymore? This is what happens when you use credit to buy the things you want, instead of buying with cash or a debit card.
$ave $mart Tip
Don’t use the characters you see on TV or in the movies as a realistic view of the things you should have. Just because a character on your favorite show wears designer clothes or has expensive electronics does not mean that this is realistic for you. Falling into this trap will get you deep into debt quickly.
Think back to the section you’ve already read about needs versus wants. When you indulge in your wants and use credit to get them, you’re setting yourself up for financial problems.
Case Study: Your First Credit Card
Tori — High School Student
“This is for emergencies only.” That’s what my parents told me when they handed me my very own credit card that drew money straight from their account. I was so excited! No longer did I have to wait for my parents to fish out cash to give me when I went out. I had it right at my command! Trips to the mall, the movies, out to eat — it was all going to be so carefree now! Turns out, I was right. It was carefree…for me. But when my parents saw the bill, it ended up that my definition of an “emergency” was a bit different than theirs.
That’s when my parents decided it was time for me to start managing my own finances. Of course, after the previous credit card spending, I was in for a big shock. My parents promptly took me to the bank and helped me set up a student checking account. Although I was disappointed that I no longer had a huge pool of money at my disposal, the independence of my new account was exciting. I got my own checks and my own debit card, complete with my very own picture. I was now responsible for paying my own bills — eating out, going to the movies, and my weakness, shopping.
In order to pay for my “expensive taste,” I had to have a source of income. Being a very involved student — socially, educationally, and athletically — I didn’t have time for a full-time job. Most of my time was dominated by practicing with the swim team. Nonetheless, this turned out to my advantage. I found a job working at the pool where I practice teaching children to do what I know best — swimming. Not only was it convenient, and I was well-trained, but it turned out to be a great experience. I was earning money and developing my skills as a leader.
Though my income problems were solved, there was still the issue of managing my money. As an Internet-savvy student, I was delighted to know my bank provided an online banking site. This site helped me manage my finances more than anything else. I quickly figured out how to set a budget and track my spending. I saved all of my receipts, wrote everything in my transaction register, and once a week, I would balance it all online. (It conveniently fit in with my social time on MySpace and Facebook.) I saw how much I spent and how much I needed to spend. This taught me important lessons on budgeting my money and learning to work around my expensive taste.
However, as time went on, I got lazy. I lost a few receipts here and there, and fell behind in my transaction register. I put off balancing my checkbook. This carelessness proved to be a lifelong lesson.
When I finally decided it was time for me to check my online account again, I found out that I had overdrawn my account. I was devastated. How could I have let something like this happen? I could have prevented it by simply keeping track of my spending. I learned an important lesson, however. Overdrawing my bank account cost me $110. Never again will I let something so big happen that can be prevented by something so little.
Since then, I have regained control of my finances. I now keep careful track of everything I buy and earn. I will not let my account get overdrawn again. Managing my finances has not only taught me how to deal appropriately with money, but it has also taught me responsibility. If my parents had let me continue to “charge it” to their credit card, I would never know how to take care of myself in the real world. It was a tough pill to swallow, but now that I’ve got the hang of taking care of my money, I can face my future.
Here, become an adult
You’ve spent a lot of time under your parents’ supervision. You’ve had to listen to their rules, and you’ve had to get their permission to do certain things. While it isn’t necessarily bad to have parents watching over you, you are probably eager to be an adult and to make your own decisions. When you’re an older teenager or college student, it’s your turn to start making your own decisions after years of having other people telling you what to do.
Guess what? Credit card companies and other lenders know that you want to make your own decisions, and they also know that you may not have a full understanding of personal finance in order to know when to apply for credit and when not to. For this reason, some companies try to encourage young people to apply for credit as a form of asserting their independence. You will see marketing signs that promise a fun experience when you get your very own credit card. There may be pictures of young people smiling as they lug full bags of merchandise around. You might even see some images of young people enjoying things that many older adults don’t even enjoy: a beautifully furnished apartment, a flashy car, or expensive dinners out. You need to realize that adulthood doesn’t automatically equal every material thing you want. That’s not what adulthood is about. In fact, if you ask any adult if he or she owns all the things he or she wants to have, chances are that you will get a resounding “No!” for an answer.
Even though having your own credit card is something you generally only get to have when you are an adult, having a credit card does not make you an adult. In other words, don’t fall for marketing tactics that try to make it seem like getting a credit card is the key to becoming an independent adult. The truth is, you will have a much more successful chance of gaining independence from your parents if you aren’t saddled with debt from credit cards and loans. In fact, if you load up on debt as a teenager or college student, , you’re only increasing your odds of someday winding back up in your parents’ home because you can’t afford to live on your own. Approximately 65 percent of college graduates return home after finishing a degree, according to the U.S. Census Bureau.
Here is a guarantee: You will enjoy your independent years as an adult a lot more if you aren’t up to your ears in debt.
Case Study: Advice from a Financial Expert
Andrew Housser — Co-CEO of Bills.com
Understand that your credit score is important, and a good score can significantly impact an individual’s ability to borrow money as well as the interest rate they receive on this loan. Credit scores also can affect the ability to rent an apartment, lease a car, or even get a job.
When the time comes for a credit card, understand that it is only for convenience, not to extend buying ability. Never carry a balance; pay every bill on time and in full. Make sure to leave some room on credit cards. Do not “max out” accounts or charge up to the credit limit.
Understand the importance of building an emergency fund. Conventional wisdom holds that individuals need to save at least six months’ worth of living expenses to prepare for the unexpected.
Learn the difference between healthy and unhealthy debt. Generally, only four types of debt can be healthy:
1. Student loans: Further one’s education and increase future earning potential.
2. Mortgages: Home ownership is an asset that can build equity and net worth.
3. Necessary medical bills: One’s health always takes priority.
4. Business debts: Often necessary to build a business and future earnings.
All other types of debt — especially credit card debt — create more problems than they solve.
Minimum payment: Bad news
You might wonder, “How can a credit card company make very much money off of me if I always make my payment on time?” It’s great that you have every intention of making your payments on time every month, but even if you have a credit card that doesn’t have monthly or annual usage fees, you are going to pay money in interest charges if you don’t pay your balance in full each month. Don’t forget: Credit card interest can build up quickly, leaving you with a much higher balance than you expected.
What is the minimum payment? This is the amount of money that the credit card company requires you to pay each month in order to avoid extra fees. In order to stay current with your account, you must pay at least the minimum payment requested by the lender. This amount can change from month to month based on how much money you owe. One month you might have a minimum payment of $40, and the next month you might have a minimum payment of $200; it all depends on your balance.
Did You Know?
Installment loans, like car loans, do not have varying minimum monthly payments. Your payment will be the same every month no matter what your balance is.
Lenders don’t come up with minimum payments without a method. The minimum payment is based on a percentage of the balance you owe. The higher your balance, the higher your minimum monthly payment will be. That’s why you can’t assume that your payment will be the same from month to month — something to consider when you’re working on your written budget.
Do you want to make a minimum monthly payment? The answer is yes, but you also want to pay more. Ideally, you should always pay off your balance every month to avoid interest charges, but if for some reason you can’t manage the full balance payment one month, at least make the minimum monthly payment. This will keep you out of trouble with the lender. Keep in mind, though, that you should not make a habit of only making the minimum monthly payment. The minimum monthly payment will be too low of an amount to pay off the balance in any reasonable amount of time, especially when you consider that interest charges are constantly getting tagged on to the account balance.
Here is an example: Suppose you have a credit card balance of $500 with an interest rate of 18 percent. Your credit card company sets the minimum monthly payment at $20. You know that 500 divided by 20 is 25, so you might assume you will have the debt paid off in full in 25 months as long as you continue to make the minimum monthly payments. Never mind that you probably don’t want to spend the next 25 months paying off a debt; you should know that if you make the monthly minimum payment every month, you’re going to wind up paying it off in approximately 43 months — not 25.
How does 25 months turn into 43 months? It’s all about interest. Do you remember reading in Chapter 3 about the how compound interest can make your savings account grow a lot faster than if you didn’t earn any interest at all? The same principal applies to interest charged on your balance; however, in this case, the money earned goes straight to your credit card company. In other words, while interest is a great thing to have in your savings account, it is not such a great thing when it comes to owing money. In fact, if you make the minimum payment using the same numbers above, you will wind up paying almost $175 in interest payments by the time you get the balance paid off. What this really means is you paid the credit card company $175 to let you borrow $500. If your interest rate is higher, you’ll wind up paying even more. For example, if your interest rate is 21 percent instead of 18 percent, it will take you an extra three months to pay off the balance and you’ll pay just under $220 in interest charges. If it seems unfair to you to pay $220 in interest charges to borrow $500, keep in mind that you can avoid this completely by paying off your credit card debt in full every month. If you can’t pay it off in full every month, at least make a larger payment than the minimum requested by the credit card company. This will help you to pay off the debt faster. The more money you put toward the balance you owe, the quicker it will get paid off, and the less interest you will wind up paying.
Case Study: Working While in School
Alexandra — High School Student
Managing my own personal finances has been something I have greatly cared about over the years. When I was 10 years old, my parents divorced. My father does not pay a lot of child support money toward me and my two sisters. Up until two years ago, when my mother remarried, my mother had basically supported us on her own. She has worked very hard to try and give us as comfortable a life as possible. Money for college, however, is another subject entirely. My father spent my college fund money. Thousands of thousands of dollars are gone. Because of this, I have since saved and spent my money wisely.
I work as a blackjack dealer for Casino Party Planners. My mother never wanted me to get a job afterschool because she was afraid it would interfere with my studies. As I am in the rigorous International Baccalaureate program, my studies are of the upmost importance. However, I still wanted to get a job on weekends that would pay for some of my expenses. With the money I earned, I was able to pay for half of my small, fuel-efficient car. The money I make is also used to put gas in my car twice a week. The rest of that money goes into my savings account, which I established when I was a sophomore. Besides working to earn money for my expenses now and my future college expenses, I also participate in fundraising efforts.
I am president of the Pink Ladies Service Club. The club gives out scholarships at the end of each year. We have three car washes annually to raise money for student scholarships. I have worked hard this year to fundraise in the hopes of being a recipient of one of those scholarships. If I am awarded it, the money I obtain will be put to the use of textbooks and housing, which is another money saver I could use.
What every freshman in college wants to have is an apartment. Unfortunately, I will not be one of those students. I did the smart, cost-efficient thing and signed up for a dorm. The dorm will hopefully be in the Honors Hall at Florida State University, where I will be attending school in their Honors program. By applying for a double dorm, I have saved a lot of money than by renting an apartment by myself.
2008 was not a good year for business for my mother and step-father. My mother is the broker of her own real estate company and my step-father is the other realtor in the business. The real estate market was in a downward spiral this past year. This is why I am trying to obtain as much scholarship money as possible. I would like to make the financial burden of college as little as possible for my mother. That is why I try so hard to save financially.
What if I don’t pay?
If you are new to credit, you may not fully understand the importance of paying on time, every time. Make no mistake about it; creditors are serious when they set a due date. It isn’t just a suggestion that you get money to them by a certain date — it’s a must.
Some lenders offer a grace period for the payment, which means even though your due date has been set to a specific date, they won’t consider the payment late until after the grace period. For example, suppose your credit card account due date is listed as the 5th of the month, but the lender offers a ten-day grace period. This means that as long as you get the payment to the lender by the 15th, you won’t run into any late payment fees or negative marks on your account.
Keep in mind, though, that some creditors don’t offer generous grace periods. You should never assume you have a grace period unless you know for sure. Even if you have a grace period, try to make your payment before the actual due date; you never really know what could happen. A problem with the mail or an electronic hiccup on a Web site might make your payment late. It is better to get into the habit now of making payments quickly instead of waiting until the last minute. When you’re older and have more bills, waiting until the last minute to pay can result in missed payments and mistakes.
Here is a sample timeline of what can happen when you don’t make your credit card or loan payments on time:
1. If your payment does not arrive by the due date, your creditor will probably contact you to let you know that you are due. Some creditors will contact you before the grace period (if you have one) runs out to give you the chance to make your payment prior to any late fees, but not all creditors will bother. Most would rather you incur as many fees as possible. If you’re contacted, it will probably be by telephone or e-mail. If creditors contact you by telephone, you may get an automated recording telling you to please call to discuss your account.
If you contact the creditor before the grace period is up, you will probably be given the chance to make a payment the same day, either over the phone or online. For a same day payment, the creditor will ask permission to withdraw money directly from your bank account. There is usually a fee that comes with making a same day payment, and sometimes the fee can be high, approximately $15 to $25. That’s a small price to pay for keeping your account current, and hopefully, you will learn your lesson the first time and never have to deal with this hefty fee again. After all, there are some adults who pay these large fees all the time just because they can’t seem to keep up with their due dates. Avoid this habit, and you’ll save quite a bit of money.
The day the late fee shows up on your account depends on the policies of the credit card company. A late fee will show up quicker on an account with no grace period than on an account with one. For this reason, a late fee might occur the day after your payment’s due date if no payment was received, or might be delayed until after the grace period. You may also find that the late fee doesn’t show up on your account until the next statement cycle. If you want to know the specific date a late fee will be assessed on your credit card statement, talk to a representative at your credit card company.
Safety first!
Just because someone calls to talk to you about your account does not mean this person actually works for your creditor. Read Chapter 9 to learn more about protecting yourself from identity theft.
2. If you ignore the requests for payment from your creditor, your account goes into delinquent status. This means that you are no longer considered to have a current account and you are officially behind in paying your bill. Many different things can happen at this point, depending on how you react to the situation and what the procedures are with your lender.
• You might be able to pay the bill and have any late fee reversed if you call the company and talk to a representative, explaining why you were late with your payment. This usually only works if you already have a long history of making payments on time and your creditor allows for fee reversals (not every company will reverse fees, even if there is a really great excuse for the late payment). If you do bring the account current and get the late fee reversed, you may still wind up with other problems, which are mentioned below.
• Your creditor may raise your interest rate as a result of your late payment. Suppose you opened the account at a really low, impressive interest rate. When you miss a payment, you run the risk of getting assigned what is called the “default interest rate.” This is the high interest rate that the creditor assigns to accounts that fall into default by being late or otherwise not following the original credit agreement. Remember: When you don’t pay your debts on time, you’re essentially breaking a promise to the creditor. When you sign a store receipt for a purchase with a credit card, the signature line usually states “I promise to pay this amount in accordance with my card member agreement.” When you sign this, you’re entering into a contract. Break the terms of the contract and the creditor is allowed to raise your interest rate, charge you fees, and do anything else that is listed in the original agreement you signed when you first opened the account.
Did You Know?
Does this all sound complicated? You can avoid dealing with all of this by always making your payments on time.
• When your account becomes 30 days overdue, your creditor may list it as delinquent on your credit report. You will learn more about credit reports in Chapter 10. Rest assured that you don’t want an account listed as delinquent on your credit report —this will make you a much less desirable applicant for years to come.
3. If you continue to ignore the requests for payment, your creditor will get a little more aggressive in trying to get money from you. You will start getting phone calls from collectors, and you will get letters in the mail that are designed to make you panic about making your payment. As you keep ignoring the requests, chances are good that your creditor is adding plenty of fees to your account. Guess what? You will also pay interest on all of those fees.
You should know that while collection agents can sometimes be aggressive and somewhat gruff, they do not have the right to be abusive to you or to threaten you in any way, such as calling you a deadbeat for not paying your bill or wondering aloud if they should come to your house to collect from you face to face. They also aren’t allowed to share information about your debt to anyone else who is not listed as a signer on the account .You will learn more about signers in Chapter 9. This means they aren’t allowed to tell your parents how much you owe on the account if you parents are not listed as a signer and if your parents are no longer legally responsible for your actions. If you are away at college, and a collector calls your mom and tells her all about your delinquent account that she is not a signer for, that collector has broken the law. The bottom line is that while you do owe money to a collector, and you should pay that money back, it does not give a collector the right to be verbally abusive to you or to try to get someone else in your family to pay your debt if that family member is not a signer on your account.
4. If you still don’t pay what you owe, depending on what type of debt it is, you may wind up being sued by the lender, or you may get the item you purchased with the credit taken away — an act called repossession. For example, if the account is a car loan or another loan used to finance the purchase of something, the lender can take that item back. The timeframe for things like this vary according to the lender, but you may find that in the case of a car loan, all it takes is missing three or four payments before the lender repossesses the car from you. Make no mistake about it; you cannot charge a bunch of purchases and just ignore the payments that are due. There are consequences to your financial actions
5. If several months go by (usually over 180 days) and you still don’t pay the debt, your creditor may just decide to give up, and the account will go into charge-off status. This means the creditor does not plan on pursuing you for payment anymore, but this does not mean you are no longer financially responsible for the debt. The account will be listed on your credit report as a charge-off, which never looks good to future potential lenders and drags your credit score down quite a bit depending on what else is already listed on your credit report. When this happens, sometimes collection agencies purchase bad debt from lenders. When doing this, they pay a portion of the amount you owe to the original lender and then the debt legally becomes theirs to collect. For example, suppose you have an Old Navy credit card and you stop making payments on debt owed to the store. Old Navy tries for months to get you to pay your bill with no success. Old Navy then decides to no longer chase you in an attempt to get you to pay. A collection agency comes along and purchases the account from Old Navy. Now, instead of Old Navy asking for payment, you will begin to receive letters and phone calls from this collection agency, which now has the legal right to pursue you for the money. So, even if the original lender gives up on getting the money from you, don’t assume you won’t eventually have to pay the money back to someone else.
If you reach this stage, don’t be surprised if your debt has grown quite a bit. When you ignore your debts, your debt begins to accrue fees while also increasing with the default interest rate. You may start out with a relatively small debt of $400, but by the time the collection agency contacts you to collect payment, your debt has grown closer to $1000 due to the fees, penalties, and interest that has piled up on the debt while you’ve been ignoring it.
Do you really want to wind up in a situation like this? Wouldn’t it be much easier to just make your payments on time or, better yet, not max out your credit cards in the first place? People who get into trouble with credit do so because they don’t look at the bigger picture. They don’t realize that a small debt can wind up turning into a huge debt when it isn’t paid on time, and they also underestimate the hassle that can come with dealing with collectors who call several times a day in an attempt to get their money back. If you think your parents calling you to check on you is annoying, imagine a collector calling three or four times a day to demand money from you. It isn’t fun.
Case Study: Repairing Your Credit Score
Excerpt from “How to Repair Your Credit Score Now: Simple No Cost Methods You Can Put to Use Today“
By Jamaine Burrell
“Debt provides a method of taking advantage of opportunities and experiences that enhance the quality of one’s life and provide enjoyment and fulfillment. Homes, vehicles, vacations, education, and all of the things that enhance one’s quality of life are obtainable by making good use of debt.
Good use of debt requires that one develop a spending plan that incorporates methods of properly maintaining and managing the acquired debt. Almost everyone will rely upon credit at some point. Whether credit is used to finance luxury and big ticket items, such as a car, or it is used to finance an unexpected medical or other emergency, one needs to be put in the position of being capable of acquiring the necessary financing when it is needed or wanted.
By borrowing responsibly, one builds a positive credit history that indicates to lenders that they are a good risk for lending money. Most lenders examine one’s past history of using credit in determining whether to issue additional credit. If one’s credit history indicates a commitment to managing debt properly, the lender is more likely to extend the necessary financing when needed and also provide the most favorable interest rates and payment schedule.