Definition of the week: CREDIT
Credit is a financial agreement between a lender and a borrower, in which money or assets are given to the borrower, with the promise that the borrower will pay it back.
Secured credit is credit that is supported by the borrower’s assets, e.g. a car or house.
Unsecured credit is credit that is supported by a borrower’s credit status and not an asset.
When you think of credit, what comes to mind? Debt, credit cards, bills?
There is really no such thing as bad credit; only bad credit management. The credit you take out when buying a car, a house, or education, is credit that is meant to help you. If you manage it responsibly, you can only benefit from it. It’s when we use credit for non-essential items such as clothing, luxury food, or vacations, that we risk getting into trouble.
But we’re jumping ahead of ourselves here!
First we need to understand what credit is. At its most basic level, Credit is an agreement between someone lending or providing something, like money or clothing, and another person who promises to pay the lender back. A credit agreement details the terms of this lending, including:
- The value of the items/money lent
- The duration of paying back
- The interest
Charging interest on loans and accounts is how lenders make their profits. Interest is that extra money that you pay back on top of the amount you’ve borrowed
Unsecured credit, such as store accounts and credit cards, often have the highest interest rates. These types of credit can be helpful in time of crisis, but can easily cripple your monthly budget if they are used too often or for non-essential items. Secured credit is usually for larger amounts and involve the borrower pledging an asset (e.g. a house or car) to get the loan. The interest on secured credit is usually lower than unsecured loans.
The whole process of obtaining, paying, and settling credit is known as the credit life cycle. When considering applying for credit, it’s important to keep this cycle in mind. You need to be 100% certain you can afford to pay back whatever you borrow, plus interest, through each phase of the cycle.
The Credit Life Cycle
The ancient phrase, “Knowledge is power” is applicable to each phase of the credit life cycle. Knowing what your credit score is, will allow you to determine if there is a need to apply for credit. The easiest way to check your credit score is to visit www.mycreditcheck.co.za
and register for your free annual credit report.
Subscribing for a monthly credit report will allow you to keep an eye on your credit score. In turn, this will help you manage your credit, avoid defaulting, and even protect you from credit fraud. Our pricing plans are very affordable, and you’ll even get regular SMS notifications about your credit score!
In the following articles, we’ll be discussing various aspects of credit in terms of the credit life cycle. Next week, we’ll look at the pros and cons of credit as well as the credit application process.