I first learned about credit when I was in law school. My teacher wasn’t a professor, though.
My teacher was a surprisingly pleasant debt collector.
I spoke to this debt collector after breaking my wrist snowboarding.
For the second time in a year.
Let me explain.
About six months earlier, my friends and I took a road trip to go snowboarding in Wisconsin. I had never been to this location before and wanted to explore the entire ski area. After a few loops on the main run, I found my way to the terrain park.
My plan was to scout out the terrain park and report back to my friends. I must have forgotten the plan as I approached a jump that I had no business approaching. That turned out to be a mistake.
Heading towards the jump, I had too much speed and, for lack of a better word, panicked. My friend reported afterwards that as soon as I jumped, my body and snowboard turned parallel to the ground like I was lying in bed.
After all these years, It almost seems peaceful to picture myself lazily flying through the air on a beautiful, blue sky, sunny day.
Almost.
To state the obvious, this was not a good position to be in since I needed my feet and snowboard to hit the ground first and land safely.
I ended up landing on my backside with my hand and wrist hitting the ground first. The unpleasant result was a trip to the emergency room and a broken wrist.
My reputation for having fragile wrists was secured.
OK, back to the debt collector.
A few weeks after returning to Chicago, I received a bill in the mail from the emergency room for approximately $200.
I didn’t understand why I was receiving a bill since I had insurance and provided that information to the emergency room. I figured it must have been a mistake to send me a bill, and that my insurance company would pay for it.
So, I crumbled up the bill and threw it in the trash.
Before you shake your head, remember that I was still in school and on my parents’ insurance. This was my first interaction with a medical provider where the bills came to me instead of them.
I didn’t know at the time that even with insurance, I could potentially be responsible for some portion of the bill.
For the next few months, I continued to receive bills from the emergency room. And, I continued to throw these bills straight in the trash.
At some point, I received a new type of letter in the mail. This one caught my attention. It was from a collections agency.
The letter said something to the effect of, “Call us immediately to dispute or pay this medical bill before we are forced to take action against you.”
The scare tactic worked.
I picked up the phone and had a surprisingly nice conversation with the debt collector. The debt collector explained how the collections process works and the potential impact failing to pay would have on my credit report.
Credit report?
Never heard of that before. Don’t think I have one.
After hanging up the phone, I did some research and realized the debt collector wasn’t scamming me.
I certainly did have a credit history, as reflected in my credit report, that I needed to be mindful of.
I wrote a check to pay the bill the next day.
This is how a broken wrist and a debt collector first taught me about credit reports.
What is a credit report?
As we learned in our post on using credit the right way, credit refers to an agreement to borrow money with the obligation to repay that money later, usually with interest.
Credit also refers to a person’s trustworthiness or history of repayment.
A credit report is a document that tracks that history of repayment, as well as the current status of any loans you’ve taken out.
Your credit report will typically include:
- Personal information (name, social security number, current and former addresses)
- Credit accounts (current and historical accounts, including credit cards and any other loans)
- Collection items (missed payments, loans sent to collections)
- Public records (liens, foreclosures, bankruptcies)
- Inquiries (when you apply for a new loan)
Every time you open a loan, like a credit card, auto loan, or mortgage, it will appear on your credit report. Likewise, whenever you make a payment or miss a payment, that information will be reflected on your credit report.
When someone has “good credit,” it means they have a reliable history of repayment. When someone has “bad credit,” it means they have not previously demonstrated a reliable history of repayment.
Remember this key point: your credit report represents a complete picture of your interactions with credit over an extended period of time. Your credit report will include information about you going back years and years.
This means that the information reflected on the report will follow you for the long term. Any negative information on your credit report will typically stay on your credit report for 7-10 years, depending on the credit reporting agency.
What is a credit reporting agency?
In the United States, there are three credit reporting agencies:
- Equifax
- Experian
- TransUnion
By law, you are entitled to receive a free copy of your credit report from each credit reporting agency every year.
To do so, simply visit annualcreditreport.com.
If you haven’t obtained your credit report recently, I highly encourage you to do so.
Regularly checking your credit report is the best way to make sure that nobody has fraudulently opened any accounts using your social security number. It’s also the best way to monitor all the loans you are currently responsible for.
Believe it or not, it’s not uncommon for people to forget about loans they have previously opened.
Did you ever go to a Cubs game in college and sign up for a credit card just to receive a free XXL white t-shirt with a blue W on it?
No?
Uhh… me neither.
How about signing up for a new credit card while making a purchase at your favorite store to save a whopping 10% that day?
You may never end up using these credit cards and completely forget that you opened them. They’ll still appear on your credit report, and you are still responsible for those credit cards.
Is a credit report different from a credit score?
Yes, credit reports and credit scores are different.
We’ll soon discuss credit scores in detail. For now, understand that a credit score is a number calculated based on your credit history that represents your present day creditworthiness.
Your credit score captures a moment in time. That means it will change over time, sometimes quickly and dramatically.
Unlike a credit score, your credit report does not change quickly. Like we mentioned earlier, any negative information on your credit report will typically stay on your credit report for 7-10 years.
Why does my credit report matter?
We typically rely on our ability to borrow money to make our biggest purchases in life. When you take out a mortgage or finance a car purchase, you are relying on your ability to borrow money to make that purchase.
In these scenarios, lenders will “pull your credit” or do a “credit check” before agreeing to give you a loan.
If you have a history of responsibly borrowing money and paying it back on time, a lender is more likely to lend you money.
On the other hand, if you have a history of falling behind on payments, a lender may choose to not lend you money.
Or, a lender may agree to give you a loan and charge you a higher interest rate to compensate for the increased risk. This could end up costing you lots of money.
Poor credit history can lead to lost opportunities.
Besides just financial consequences, a poor credit history can also lead to lost opportunities.
As an example, it’s common practice for landlords to check an applicant’s credit history before renting them an apartment. Most major rental property search websites, like Zillow and Apartments.com, offer credit checks as part of the standard application process. My wife and I require a minimum credit score for all potential tenants.
It makes sense why a landlord would pull an applicant’s credit. When you rent an apartment, you are signing a contract (a lease) to pay a predetermined about in exchange for a place to live.
Landlords rely on those rent payments to pay for the property’s mortgage and upkeep. These rent payments can also directly impact the landlord’s livelihood.
It should be no surprise that landlords are hesitant to rent apartments to people who have a poor track record of paying for things.
Just as a landlord is sizing up your ability to pay the rent each month, other lenders, like a car dealership or mortgage lender, are sizing up the likelihood you can repay its loan.
Don’t ignore your credit history.
Have you checked your credit report this year?
My wife and I check our reports at least once per year to make sure there are no red flags.
Fortunately, I realized my mistake with the debt collector before that red flag ended up on my credit report.
If I hadn’t, I would have seen that negative mark on my credit report for 7-10 years. This would have severely impacted my ability to qualify for mortgages and grow my real estate portfolio.
I’m glad I learned that lesson about credit reports.
I’m also glad that I haven’t been back to a terrain park since law school.