Using Credit Versus Never Using Credit

Sunday, April 12, 2009

Have you ever heard someone proudly proclaim that they never use credit for anything? That they pay for everything with cash or check and have never even had a credit card? Maybe they are even so bold as to claim that their lack of credit usage gives them a better credit score overall.

It certainly sounds like a noble cause. After all, it can be very difficult to live in the United States or Canada without making use of credit cards, student loans, auto loans, or home mortgages. But here are certainly people who do it.

Unfortunately, those who claim this is a better strategy than using some credit responsibly are completely wrong.

Let's think about what credit is and how your credit score might relate to the greater purpose of credit. Credit is based on the principle called leverage, or the act of paying out a little bit at a time to obtain something of a greater value than each individual payment.

Let's use an example to better explain the concept. Let's say you want to go to college in order to get a better job. Maybe you currently make $30,000 a year, but with your new degree you could be making $60,000. Considering the average lifespan of a North American, an extra $30,000 a year can be quite valuable when you add it up. Therefore, this education is worth quite a bit to you.

Of course, the universities know this too, so they want to charge an amount for their education that is relative to the value that their students will receive. So, let's say that 4 years of university will cost you $30,000 dollars.

Even if you saved 100% of your money for a year, never spending it on things like food, clothing, and housing you would just be able to afford 4 years of college courses. Not to mention that you may not be able to keep your job while you take those classes, so you would have to figure out a way to pay for food and housing while you're in school.

As you can see, someone who insists on never using credit could have a very hard time making ends meet while pursuing an education.

But someone who is in the business of lending would see this as a great opportunity. After all, here is someone who is trying to improve their life and their earning power by going back to school. Assuming you complete the courses and get the job you want, this would be a terrific investment. So which would you rather: scrape and save for a year or more to afford a college degree, or take out a loan now which will be even easier to repay once you graduate?

As for the argument that taking a loan and making use of credit will hurt your score, it's just not true. If you use credit responsibly as in our example of using borrowed money to improve your education and salary, and make your payments on time, your credit will be much better than the person who attempted it without a loan.

You see, lenders want to lend to people who will use credit wisely. Things like college degrees, home mortgages, or a loan for a reliable car are loans which can be used to improve your quality of life. It is this improvement that gives you a greater ability to use credit responsibly.