For teenagers, credit is a chicken-and-egg situation. You need a credit card to build a credit history by showing you can make payments on time. But you can’t legally get a credit card till you’re 18.
That said, teaching kids about borrowing and credit is an important part of their financial education. Understanding how credit works and learning to manage their money young will stand them in good stead as adults. They’ll be better equipped to handle credit responsibly without overspending or living beyond their means.
Here are 10 essential tips your teen needs to know about building credit.
Credit tips your teen should learn
It’s vital your teens understand the benefits of having a good credit score. Explain that they’ll need one to open a mobile phone account, rent an apartment, or buy a house or car.
There are various ways to help your teenager build credit. But first, they need a firm grasp of the basics.
1. Understand your credit score
Explain that a credit score is a 3-digit number that shows how responsible you are with money. Credit scores typically range from 300 to 850 and they’re placed in five categories: poor, fair, good, very good and excellent.
Lenders (banks, mortgage providers and credit card issuers) use your credit score to decide if you’re a safe bet. A high score means they’re more likely to lend you money. If it’s not so good, you may not get the loan at all. Or you may have to pay higher interest rates.
Your credit score is worked out from your credit report. This shows where you live and work and whether you’ve ever filed for bankruptcy or been arrested. Your credit report also lists your bill payment history, your loans, and what debt you have.
2. Check your credit report regularly
Credit reports can affect interest rates you’re offered, apartment requests and even job applications. Explain to your teen that it’s wise to check your credit report regularly. That way you can see what you need to do to improve it.
It’s also important to make sure the data held about them is correct and up to date. Suspicious accounts or activities they don’t recognize could be signs of identity theft. Regular reviews will help spot this early.
Federal law allows you to get a free copy of your credit reports every 12 months. (You don’t just have one credit report, you have three.) You can get a free credit report from all three major credit bureaus every year.
3. Make more than the minimum payment
Every month, your card issuer will tell you the minimum payment you can make towards your credit card balance. It’s either a percentage of what you owe or a fixed dollar amount. It depends which is greater.
But only making the minimum payment each month is a bad idea. You’ll be charged interest on the amount you owe for as long as you owe it. And that can seriously add up.
Try giving your teenager an example. Would they rather pay $60 for a new pair of sneakers now? Or pay $65 in a month’s time?
Emphasize that by paying off the balance on your credit card in full every month you’ll avoid paying interest and keep your credit score healthy.
4. Pay your bills on time
One of the most important factors used to work out your credit score is your payment history. Late credit card payments can have a significant impact. Show your teenager how they can avoid this by setting up automatic payments so they’ll never miss one.
5. Keep your credit card balances low
High credit card balances can be a red flag to lenders and lower your credit score. Make it clear that to avoid this, keep your balances low. And pay them off entirely every month.
6. Avoid having too many credit cards
A backup credit card may be useful in an emergency. It’s good to have in case yours gets lost or stolen. But having too many credit cards, even with zero balances, can adversely affect your credit score.
If you’ve had a credit card for years with no activity on it, there’s no history for credit bureaus to see. Avoid this by spending small amounts on your credit cards and paying them off in full on your statement due date.
7. Don’t apply for credit too often
Every time you apply for credit, it shows up on your credit report. Apply too often and it can damage your credit score. It’s best to limit the number of credit applications you make and only apply if you’re sure you’ll be approved.
8. Use your credit card wisely
Credit cards are a great tool for building credit, but they can cause you financial problems if not used wisely. Emphasize to your teen that a credit card is not free money. It’s borrowing — at high-interest rates, too, if you don’t pay off your entire balance every month.
Spending sprees are not a great idea. It’s better to avoid using a credit card for unnecessary purchases and only use them when they’re sure they can pay off the balance in full each month.
9. Be wary of co-signing
Co-signing on a loan or credit card is a big risk. It’s not just about lending your good credit reputation to someone else. When you co-sign, you’re promising to pay the entire debt if they can’t. That includes any late fees owing, as well as any collection costs.
If this happens it’ll have a negative impact on your credit score. Advise your teenager to be careful when co-signing for someone. They should make sure they understand the consequences before agreeing to do so.
10. Be careful when shopping online
To avoid identity theft or unauthorized use of your credit card it’s important to take safety precautions when shopping online. Only enter your card details on a secure site.
There are several ways to check a site’s security:
Is the lock icon (a little padlock) showing in your browser window?
Does the site have an SSL certificate to prove its connection is encrypted?
Does it have ‘https’ (secure) or ‘http’ (not secure) at the start of its URL?
You should also avoid typing in your card details online when using public wifi. Open networks — in coffee shops, airports and malls, for example — are typically unsecured.
5 tips for teaching teens about credit
When you’re confident your teenager understands how credit works, you’ll want to reinforce what they’ve learned. Here are some ways to help them put theory into practice.
1. Give them hands-on banking experience
One of the advantages of opening a kids’ bank account is that they’ll get hands-on experience in managing their money. You can open a bank account from birth for your child. You just need their social security number.
However, if you want them to have access to the money in the account, most banks require them to be 13. Then you can open a joint checking account which typically comes with a debit or ATM card.
There are disadvantages to kids’ bank accounts though. You can’t set spending limits, for example. The only way to monitor your teen’s spending is to access their account online using their passwords. And as joint owner of the account, you’ll be liable if they overspend.
2. Start building credit early
The earlier your teenager starts building a good credit history, the better their credit score will be in the future. Legally, you have to be 18 to get a credit card. However, most card issuers will let you add your child to yours as an authorized user from 13.
Should your teen have access to a credit card? There are risks, of course. But it’s a way to help your teenager establish a credit history and learn to manage money responsibly.
If you do decide to add your teen as an authorized user on your account, make sure they’re armed with all the facts about credit cards. And check they’re clear on the difference between a debit card and a credit card too.
3. Credit card vs cash
People spend more when using a credit card than cash. That’s a fact backed up by several academic studies including the Journal of Experimental Psychology, In some cases, shoppers spend up to 100% more. Why? It turns out it’s less painful to pay using plastic than it is to part with your hard-earned cash.
Next time your teen wants to buy something, have them withdraw the cash from their bank account. They may change their mind when they see just how many Benjamins they’ll be handing over.
4. Set spending limits
If you’ve added your teen to your credit card account, setting limits and guidelines is vital. As a co-signer, if your child overspends, you’ll pay for it. Literally.
Decide together what sort of purchases your teen should use the credit card for. Should they check with you before they buy anything? And how will you monitor their spending? You may want to set a cap on it each month.
5. Discuss needs versus wants
Understanding the difference between needs and wants is key to successful budgeting. And making a budget is a healthy habit to learn young.
Kids who can differentiate between wants and needs are less likely to give in to impulse buys and overspend as adults. So they’ll be able to manage credit responsibly. Talk about needs versus wants with your teenager and teach them how to budget.
How can GoHenry help?
GoHenry is a great way to teach your kids about credit and give them a ‘hands-on’ experience. Unlike a credit card which lets you keep spending up to a certain amount, GoHenry is a pre-paid teen debit card. So it only works when the money’s there to spend.
And unlike a child’s checking account, which you can only open from 13, GoHenry is available for kids from age 6. It may not be a bank in the traditional sense, but it works in a similar way. It also has advantages you don’t get with a kid’s bank account.
GoHenry comes with a separate app for parents and teens. So while your child gets a taste of financial independence you get peace of mind. You can monitor their spending, set limits and restrict where they can use their card.
They’ll also have access to Money Missions, our in-app financial education tool designed to accelerate financial literacy. Through fun, age-appropriate games and quizzes, they’ll learn about credit and borrowing plus a host of other money topics too.