What Is Credit and How Does It Work?
Credit is a prettier word for debt. When you obtain credit you are borrowing money, or getting the right to access money (like a credit card, for example), and you agree to pay back the person or company that loaned you that money. In these type transactions, you are the "borrower" or "debtor" and the person or company who lent you the money is the "creditor". Part of the terms of the loan is the interest amount that you will pay for the right to use the creditor's money. Interest is simply money that you pay for the right to borrow money.
When you make a credit transaction, you are creating a debt that you are legally obligated to pay back. The most common types of credit transaction are loans and credit card purchases.
How do creditors decide whether or not to lend me money?
Creditors make decisions about whether or not to lend you money based, in part, upon a profile of your past credit performance that is kept in files that are maintained by companies known as "Credit Reporting Agencies" (CRA's) or "Credit Bureaus" (CB's).
How do credit bureaus work?
Before credit bureaus came into existence, most creditors kept individual records on their relationships with borrowers and did not share that information with anyone else. If you needed credit from a company that had no history of credit dealings with you then you would provide them with a list of companies that you had already done business with and they would write each company to find out how you had performed under your agreement. As credit lending grew, this process became cumbersome and credit bureaus were formed to act as central clearinghouses.
Credit bureaus collect information about your payment history from their member
companies. Member companies are creditors who have an agreement with the credit bureau to report their credit experiences with you.
The credit bureau accumulates all of this information and stores it in a computer database. The bureau makes the information in this database available to other member companies who are considering granting you credit.
The credit bureau is an impartial reporting agency. It does not make a decision whether or not to grant you credit. It only provides the information that it has on you to the creditor who makes the final decision.
The credit bureau makes money by charging the creditors for access to your information.
In the U.S., there are three major Credit Bureaus. They are TransUnion (1-800-888-4213), Equifax (1-800-685-1111), and Experian (1-800-311-4769.) There are many local and regional credit bureaus as well, but most of these obtain their information from the major credit bureaus. Not all creditors belong to all three bureaus. As a result, a creditor may see only a portion of your entire credit history if they do not request reports from the three major bureaus.
Credit can help you or hurt you. It all depends on what you know about credit and how you use your credit. Learn as much as you can and your good credit will always be there to help you.
About the Author
Angela Smith is the owner of LearningAboutCredit.com. Her goal is to provide you with the knowledge you need to become debt free through sensible financial management. Get your free report, Learning About Credit: Steps to Take on the Road to YOUR Good Credit right now!
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