Credit Scores, Credit Cards How Consumer Finance Works: How to Avoid Mistakes and How to Manage Your Accounts Well SILVER LAKE PUBLISHING LOS ANGELES, CA Š ABERDEEN, WA Credit Scores, Credit Cards How Consumer Finance Works: How to Avoid Mistakes and How to Manage Your Accounts Well First edition, 2005 Copyright © 2005 by Silver Lake Publish- ing Silver Lake Publishing 111 East Wishkah Street Aberdeen, WA 98520 For a list of other publications or for more information from Silver Lake Publishing, please call 1.360.532.5758. Find our Web site at www.silverlakepub.com. All rights reserved. No part of this book may be reproduced, stored in a retrieval system or transcribed in any form or by any means (electronic, mechanical, record- ing or otherwise) without the prior writ- ten permission of Silver Lake Publishing. Library of Congress Catalogue Number: Pending The Silver Lake Editors Credit Scores, Credit Cards Includes index. Pages: 288 ISBN: 1-56343-782-1 ACKNOWLEDGMENTS The Silver Lake Editors who have contributed to this book are Sander Alvarez, Esq., Sue Elliot-Sink, Kristin Loberg and James Walsh. This is the 16th title in Silver Lake Publishing’s se- ries of books dealing with risk and economic issues that face people living in the United States and other developed countries. In this book, we refer to contract terms and legal decisions from the United States—but the spirit of the discussion about consumer credit can apply be- yond the jurisdiction of the courts cited. The discussions of standard practices, contracts, laws and court cases in this book are intended only to illustrate underlying terms and concepts. Noth- ing in this book should be interpreted as giving specific legal, financial or other advice. Legal stan- dards and best practices are constantly changing. Check with a certified credit counselor, certified tax adviser or attorney before taking any action based on what you read in this book. This book is intended to make the theories and prac- tices of consumer lending understandable. The Sil- ver Lake Editors welcome feedback. Please call us at 1.360.532.5758 during regular business hours, Pacific time. Fax us at 1.360.532.5728. Or e-mail us at A C K N O W L E D G M E N T S CONTENTS CHAPTER 1 Why Credit Is So Important 7 CHAPTER 2 The Mechanics of Credit Scores 21 CHAPTER 3 How Credit Cards Work 43 CHAPTER 4 Choosing a Credit Card 59 CHAPTER 5 Using a Credit Card Wisely 85 CHAPTER 6 Dealing with Credit Bureaus 101 CHAPTER 7 Who Can Look at Your Credit 115 CHAPTER 8 Red Flags and Black Marks 127 CHAPTER 9 If You’re Having Money Problems 153 T A B L E O F C O N T E N T S CHAPTER 10 Family Issues 187 CHAPTER 11 Improving Your Credit Score 207 CHAPTER 12 Mortgages and Car Loans 227 CHAPTER 13 Keeping Good Credit 251 CHAPTER 14 Key Credit Terms 267 INDEX 283 C H A P T E R 1 : W H Y C R E D I T I S S O I M P O R T A N T 1 WHY CREDIT IS SO IMPORTANT You’ve found your dream house. The neighborhood is perfect. The schools are great. The kitchen has everything you want. You’ve negotiated a good price. You’ve signed reams of paperwork. And you open an escrow account. Then your mortgage broker calls. Remember the great interest rate she quoted you last week? You don’t qualify for it. She says there are some prob- lems with your FICO score. Your interest rate is go- ing to be higher by almost four percentage points. Suddenly, your monthly payments on a $200,000 loan jump from $1,150 to $1,620. That’s a 40 percent increase! Your eyes well up with tears as that dream house slips away—along with the nonrefundable deposit check you’d written. And it’s all because the mort- gage lenders said your credit score was low. 7 CHAPTER C R E D I T S C O R E S , C R E D I T C A R D S Buying a house is the single biggest purchase most consumers will ever make—and the vast majority of people buy that house on credit. But home buy- ing isn’t the only time your credit is important. Your credit is a factor when you want to rent an apartment, buy a car, get braces for your children or take advantage of a “no interest for six months” offer on a big-screen TV. Sometimes, your credit history will even come into play when you apply for insurance or for a job. Credit history plays a vital role in your day-to-day life, making expenses like a home mortgage more— or less—expensive for you. And it’s practically im- possible to rent a car without a credit card. I T ’ S A C R E D I T E C O N O M Y A growing number of people purchase products and services on credit—either with credit cards or by taking out other types of consumer loans. Ameri- cans borrow to buy cars and trucks and put less money down when they buy homes, as home prices escalate in many parts of the country. But credit cards are the fastest growing form of consumer borrowing in the developed world. And they have the biggest impact on most consumers’ financial status. Credit cards are used on a regular basis by more than 73 percent of American households, up from 16 percent in the 1970s. Most Americans have at least one general-purpose credit card these days, and 8 C H A P T E R 1 : W H Y C R E D I T I S S O I M P O R T A N T more often they have two or three. By general-pur- pose, we mean a credit card not issued by a specific store or retail chain; these cards include Visa, MasterCard, Discover or American Express cards that can be used almost anywhere. In 1999, American consumers charged about $1.2 trillion on their general-purpose credit cards. By 2003, that number had grown by about a third—to more than $1.5 trillion. Specifically, American Express saw a 13 percent in- crease in cardholder spending from 2003 to 2002. And that business was increasingly profitable. Ac- cording to the company, American Express Bank (AEB) reported net income for 2003 of $102 mil- lion, up 27 percent from $80 million the year prior. Visa, the largest player in the general-purpose credit card market, generated around $3 trillion in card sales volume worldwide each year in the early 2000s. Even Diners Club, a relatively small player in the market, racked up gross sales volume of $31 billion in 2001. And then there are so-called “captive cards”—credit cards issued by department stores, gas stations and specialty retailers. They account for something like half again the amount charged to the general-pur- pose cousins. In theory, credit cards allow you to enjoy your pur- chases for as long as a month before you have to pay 9