Don’t send your child to college clueless about credit

If you’re sending your child off to college in the fall, that last summer after high school graduation can fly by. It may not be enough time to fit in all the life lessons you’d like to impart – but it’s important to make sure your child isn’t naive about credit when he or she arrives on campus.

We asked some personal finance education experts which lessons they wish parents would teach their kids before sending them off – and how you can teach them effectively.graduation-caps

Lessons to teach

When asked about common credit blind spots of new college students, experts called out the following issues:

1. How to pull a credit report and what’s on it
If you haven’t already done so, sit your child down this summer and pull his or her credit report.

Assuming your child hasn’t opened any credit accounts (or been added to any of yours), the report should be practically blank, says Laura Levine, president and CEO for Jump$tart Coaltion for Personal Financial Literacy. If mysterious accounts are listed, your child may be a victim of identity theft, and you need to take action (follow the instructions here, from TransUnion).

“If there is something inappropriate, at least you have the opportunity to report it before the child is off far away from home on their own for the first time,” Levine says.

If all is as it should be, discuss with your child how to read and understand a credit report (here’s a good place to start) and how the various factors listed influence credit scores. A common misconception among young people is that all bills appear on credit reports and feed into credit scores, says Angela Mazzolini, Accredited Financial Counselor® and program director for Red to Black, a student financial education program at Texas Tech University.

“They might think their phone bill or maybe their rent are going to show up on their credit reports,” Mazzolini says. “They think, ‘I’m paying my bills on time, so that’s going to give me good credit.’ ”

In truth, only delinquent bills affect credit scores — when they end up in collections. While the credit bureaus and even FICO are experimenting with incorporating positive bill-payment history, scores that factor in alternative data (such as bills) aren’t yet mainstream.

2. Credit doesn’t have to be feared … but should be respected
Many of today’s new college students may have seen their parents go through the recession.

“A lot of them witnessed their parents go through a credit-card freak-out,” Mazzolini says. “A lot of their parents are saying, ‘Credit cards are bad, stay away,’ and they haven’t seen them used as an effective money management tool.”

Responsible use of credit (cards and loans), however, is the only way to build a traditional credit score – which your child will need to qualify for good terms on a car or home loan in the future, notes Sandra Huston Associate Professor of Personal Financial Planning at Texas Tech.

“The widespread parental sentiment of ‘Just stay away from credit cards’ is perhaps not the best paradigm to set your child up for the future,” Huston says.
So rather than preaching avoidance, counsel caution – using credit sparingly and always paying on time.

3. Credit cards and debt aren’t the same thing
While loans entail taking on debt, credit cards don’t have to.

“That’s a difference some families and young consumers still struggle with,” Levine says. “They’ll say, ‘I want to charge things on my credit card because I want to have a balance and build my credit.'”

In truth, though, your child can make one small purchase (say, a tank of gas) per month, pay it off between the day the statement is issued and the due date, and still build credit. That way, credit cards become a credit-building tool, or a convenience tool, rather than “debt instruments,” Huston says.

“If a person can get into this habit, credit cards have a lot to offer in terms of establishing and improving future credit worthiness, consumer protection and rewards programs,” she says.

4. … and neither are credit and debit
Debit and prepaid products are convenient payment tools and can be a great way to teach young people not to spend more than they earn. However, because there’s no lending involved, they don’t report to the credit bureaus.

Also, don’t assume that your child’s ability to use a debit card responsibly has prepared him or her for using a credit responsibly.

“If we want young people to understand the importance of making purchases and then paying off the balance on time later, the debit card doesn’t teach that,” Levine says. “It’s a good step, but there’s more to learn.”

5. Personal information is vulnerable
Whether it’s adding a credit card to a gaming account and then giving friends access, or leaving a card a desk, the open trust of dorm life can backfire in the form of stolen information, Levine says.

For example, your child’s roommate might have a guest over or share a gaming password without considering the consequences.

“I wish parents would make their children a little more savvy about being protective of their information,” Levine says.

6. Credit cards should be used sparingly
Because of the rules set by the CARD Act of 2009, consumers under 21 must prove they have sufficient income before being approved for a credit card. Consequently, 18-year-olds without jobs likely won’t qualify on their own. Parents who want to help them on their credit journey, therefore, might consider adding their child as an authorized user on their own cards — or co-signing a new credit card with their child. Students with some independent income may also qualify for a student credit card.

However your child gets a card, discuss what the card should be used for.

“There are some pitfalls students might fall into,” Mazzolini says. “For example, ‘Everyone’s buying that, so I’m going to buy that, too.’ Or ‘They bought me pizza last week, so I’m going to buy theirs this week, even though I don’t really have the money.'”

Setting clear rules can help stave off peer pressure and enforce good habits for the future.

“You might say, ‘This is only for emergencies’ or, ‘This is only for gas,'” Mazzolini says.

How to teach them

Think your kid won’t listen to you? We asked the experts for ways to break through.

1. Take them to the bank: Have your child sit down with an employee at a bank or credit union to discuss credit options.

“We all know as parents that sometimes our children will believe a professional more than us,” Levine says. “What the teller says might sink in more than what we say.”

2. Seek out resources online: Jump$tart publishes national standards for kindergartners through high school seniors. Run through the list to see if your child is on target for his or her grade level. (developed by the President’s Advisory Council on Financial Capability) also breaks down ideal skills for each age.

3. Do a trial run: Establish a “credit card” (Huston used a hotel key card for her nephew) issued by “The Bank of Parents.” Make an application form for your child to fill out and draw up a card agreement. The answers on the application can determine credit limits, purposes for which the card can be used, the grace period and interest rates.

“Parents can be creative here,” Huston says. “Interest charges may be in the form of household chore contributions. Types of charges may be expanded given good credit history performance … and reward points can be given for positive use.”

“When it comes to what conversations to have before you send them off, these are some good tools,” Levine says.

4. Give your child a loan: If your child wants to buy a laptop or other big-ticket item for college, consider lending the money — and then acting as a lender would. Draw up an agreement for an installment loan, payment terms and finance charges.

“Then [parents can] have the child pay off the loan while they monitor the progress,” Huston says.

This will give your child valuable borrowing experience without the threat of the future-derailing consequences of defaulting on a real loan. However, parents can establish consequences for missed payments — and use them as an opportunity to discuss the hypothetical effects on a credit score.

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