**Disclosure** This post contains affiliate links, meaning that I may make a commission if you decide to purchase products through my links. This commission comes at no cost to you. For more information, please review my affiliate disclaimer.
Over the years, I have met with many clients who know little about personal finance. Many times this was because their spouse was in charge of paying the bills, managing credit cards, and investing their money. Now, without that person, they don’t know what to do with their finances.
Does this sounds like your situation? This really concerns me.
While my job is not to be a financial advisor, I don’t feel right sending my clients out into the world post-divorce without knowing how to balance a check book, pay off debt or invest their divorce award. What is the point of obtaining part of the marital estate in the property division if you don’t know what to do with it? My goal with the Divorce Lawyer Life is show you how personal finance intersects with divorce and to teach the newly single persons the basics of personal finance.
Does this apply to you? Well then, read on.
Credit is one of the basic pillars of personal finance. However, I find that a lot of my clients don’t really understand how it works. Are you confused about credit as well? This article will answer the following questions:
- What is credit?
- Why do you need credit?
- What is a credit score?
- How do you check my credit score?
- How do you protect your credit in a divorce?
- How do you establish credit if you don’t have a credit history?
What is credit?
Experian, one of the three credit bureaus, defines credit as:
Credit is borrowed money that you can use to purchase goods and services when you need them. You get credit from a credit grantor, whom you agree to pay back the amount you spent, plus applicable finance charges, at an agreed-upon time.
Experian.com
There are four basic types of credit:
Revolving Credit
This is your standard credit card account. With revolving credit, you are given a credit limit, which is the total amount that you can spend on the card. Each month you receive a bill requiring you to make a certain minimum payment towards that total.
If you don’t pay off the total amount owed on the card you are charged a finance charge, which is interest owed on the balance remaining on the card. If you pay off your balance each money, then there are no finance charges. You can not spend over the limit, so it is best to pay off as much of the balance each month as possible to be able to use the card and avoid additional fees.
Charge Cards
Although a lot of people use this term interchangeably with credit cards, they are actually different. Charge cards require you to pay off the balance owed each month. A revolving credit card only requires a certain minimum payment to be paid. Certain American Express cards are traditional charge cards. When applying for a credit card, make sure you understand whether it is a revolving credit card or a charge card. This is especially important if you want to use the account for big purchases that you want to pay off over time.
Service Credit
Service credit is where the provider offers you a service that you pay for after the fact, generally on a monthly basis. Examples are: cable, cell phone plans, utilities, gym memberships, and insurance. I’m not sure if people think about these types of accounts as credit accounts but they are. These companies are providing you with a service in expectation that you will pay them each month for that service.
What is the difference between service credit and a basic bill? With a service credit, you are not paying for the benefit at the time that it is incurred, like you do with a grocery bill. Rather, you are paying for the benefit after you have already received it. Most of the time, service credit is not reported on your credit history. The exception to this is if you fail to pay on this obligation and it goes to collections.
Installment Credit
This is credit where the monthly payment is a set amount calculated using an interest rate, principal (base amount of the loan) owed, and the length of the loan. This is different than a credit card because you can’t utilize more credit as you pay off the loan. Examples are: car loans, student loans, personal loans and mortgages. These loans are not factored into your debt to credit ratio (discussed below). However, these accounts are listed on your credit report and are part of a lender’s consideration when determining whether to extend you additional credit.
Why do you need credit?
There is no way to escape the need for credit. Rather, credit is a consideration in all major financial purchases. It tells the lender or service provider that you will pay your obligation owed to them and, therefore, they should give you an account.
Examples of when you need credit
Credit isn’t necessary just to get a credit card or mortgage. Here are other situations where you need credit:
- Apartment rental: Most landlords will run your credit score as part of the application process. Eviction is difficult and expensive. Checking a prospective tenant’s credit score gives the landlord more confidence that they are going to pay the rent owed. If you have a history of not paying bills, why would the landlord think that you would pay your rent on time, or at all?
- Car rental: Most car rental agencies require a credit card as insurance that you are going to return the vehicle.
- Cell Phone: If you have no credit or a bad credit history, the cell phone provider may require a deposit before extending you a plan.
- Utilities: Similar to cell phone providers, a utility company may require a deposit if you have a bad credit score.
- Car insurance: Some companies will consider your credit score when determining your rate.
- Employment: Some prospective employers will consider your credit score before offering you a job. They see it as an indication of your trustworthiness.
What is a credit score?
A credit score is a “three digit number showing others your creditworthiness, and is often used as an indicator of how risky you are.” said Liz Weston, a financial planner, author of “Your Credit Score”and a columnist for NerdWallet. Your score can range from 300-850. Anything above a 700 is considered a good credit score.
There are three main credit bureaus, which is why you may see different numbers if you run your credit. The main three companies are Equifax, TransUnion, and Experian. They each calculate your score using the information that they have about you, and your credit file may be slightly different with each bureau. For example, one company may have a debt balance from March while the other one is using one from April. I have also found old accounts still listed on one company’s report but not another which affected my score.
There are six main factors that determine your credit score. Some carry more weight than others. Those factors are as follows:
1. Hard Inquiries
This has a low impact on your score. A hard inquiry is a formal request for credit, such as applying for a car loan or a mortgage. Making too many requests at once will appear as if you need money, a red flag to creditors. It is best to have no more than 2 hard inquiries on your report at a time. These inquiries are removed from your report after two years.
2. Number of Accounts
This also has a low impact on your score. This is the number of credit accounts that you have in your file. It is best to have a mix of types of accounts, i.e. installment loans and credit cards. This figure consists of both open and closed accounts. An ideal number of accounts is anything over 11. This is why establishing a credit history is so important.
3. Credit Age
This has a medium impact on your score. This is the average length of time that all of your accounts have been opened. The longer the better, as this shows potential lenders that you pay your bills. Also, a lot of new accounts opened at once signals to the lender that you need credit because you are struggling financially. Not good. It is best to have an average age of 7 years for all your accounts.
4. Derogatory Marks
This factor has a high impact on your score. A derogatory mark is a report that a credit account went to collections or that your filed for bankruptcy. These flags stay on your report for 7 to 10 years. So, if you are going to do anything to protect your credit, avoid having one of these on your report! Even one mark is too many.
5. Credit Card Use
Credit card usage also has a high impact on your score. This is how much of your available credit that you are using at a time. Credit card usage is often referred to as your debt to credit ratio or debt to credit utilization. This is the percentage of the credit that you are utilizing divided by the amount of credit that you have available. For example, if you have $20,000 in available credit across all your revolving credit accounts, and the total amount that you are using is $5,000, then your debt to credit ratio is 25% ($5,000/$20,000). It is best to keep your debt to credit ratio below 30%. Therefore in this scenario, you should be using no more than $6,000 in credit available.
6. Payment History
This factor has a high impact on your credit score as well. This is simply a record of whether you paid your credit accounts timely. A late payment is generally defined as paying on an account more than 30 days after the due date. Even one late payment can hurt your score.
How do I check my credit score?
There are two ways to check your credit score: (1) pulling your credit report and (2) checking your score via a soft inquiry. While you should use both methods, there is a time when one may be more appropriate than the other. I will discuss when to use both below.
Pulling your credit report
As I discussed above, there are three bureaus who maintain your credit file. You can obtain a free credit report from one of those companies each year. I don’t think you need a formal report more than once a year. This is because checking your credit actually affects your score (albeit minimally) as it is considered a hard inquiry.
I recommend that my clients obtain a report when they first separate to make sure that their spouse did not take out credit in their name. As most credit applications can be done online, it is pretty easy for a spouse to take out a credit card in the name of their partner without them knowing it. Yes that is illegal but yes it still happens.
I had a case where the husband took out several credit cards in the name of his wife so he could hide his cash advances, which he was using to go to strip clubs on a daily basis. While this debt was ultimately assigned to him in the divorce as non-marital debt, the mere existence of the accounts affected my client’s credit score. It is very hard to compensate someone for a ruined credit score.
If you haven’t gotten a formal credit report in a while I suggest that you get one so that you can fully review the state of your credit. You can’t fix what you don’t know about. This may also be important in terms of how you structure the property division (which includes allocating debt) and what documents that you request in the financial disclosure process.
Soft Inquiry
A soft inquiry into your credit is a report that gives you your score and a few details about how the score was calculated but doesn’t go into the same depth as a formal report does. A soft inquiry will not affect your score so you can check it as often as you would like. I like to check my score at least once a month. That way, I can spot any errors as soon as possible.
I personally use and recommend Credit Karma to all my clients. Credit Karma is free and user-friendly. It quickly checks your score with two credit bureaus and then offers advice on how to improve it. The site also has recommendations for credit cards, auto loans and personal loans based on your score.
I think that all divorcing parties should do a soft inquiry of their credit on a regular basis. Why? Even if you are not concerned that your spouse has opened accounts in your name, you should know where your credit score stands throughout the divorce process.
This is particularly important if you are trying to improve your score to obtain a mortgage or to refinance the existing mortgage on the marital home. It is best to know if you can qualify or what you need to do to qualify for such a loan. Why waste time fighting for an asset you have no possibility of maintaining? Understanding your financial picture can help you craft your divorce award to best suit your present financial circumstances and help build towards a better financial future post divorce.
How do I protect my credit in a divorce?
Here are my suggestions for protecting your credit in your divorce:
Check your credit score regularly
If you spot any irregularities in your soft inquiry, order a full credit report. Also, if you find any errors on your report, take steps to correct them immediately. This can be done either with the lender that made the error or with the credit bureau. Here is a great article from MyFico.com on how to fix errors on your credit report.
Do not close joint credit accounts right away
This may seem like an odd suggestion when one of main principles of divorce is to financially untangle a couple. Hear me out. Often, when parties first marry, they establish a joint credit card account to use for shared purchases. If you have been married a long time, this could be one of the oldest credit accounts that you have.
If you close that account, you lose all those years of credit history and it could cause your score to take a nose dive. This is particularly troublesome if you need a good credit score to obtain a new mortgage or rent an apartment after separation.
Instead, keep that account open but don’t use it. Then, get a credit card account in your own name and use it wisely to build up good credit history. After you have obtained the new mortgage or apartment lease, feel free to close the account or, if possible, have the account transferred into your name alone.
Remove spouse as an authorized user from your credit accounts
An authorized user is different than having a joint credit account with your spouse. When someone is an authorized user on your account, they have the right to make charges on that card. However, the account remains in the name of the accountholder. Therefore, the accountholder is ultimately responsible for the account payments. Also, the account is considered in the score of the accountholder and not the authorized user.
You should remove your spouse as an authorized user from your accounts as soon as possible after a separation. This is because if your spouse is upset about the break up, they may be inclined to run up debt on your accounts rather than their own cards. Even though these charges can be accounted for in the final property settlement agreement, this doesn’t help you if those charges evaporate your available credit and ruin your score when you need it most. What’s worse, you are going to likely be responsible for the minimum payments on that account while your divorce is pending. And if you don’t make those payments the lender is going to come after you for satisfaction, not your spouse.
Research credit repair options
Are you worried about the amount of debt that you will have after divorce? Don’t worry, you aren’t alone. There is a strong connection between divorce and money problems, including credit card debt.
Not sure how to fix your credit? Check out creditrepair.com.
CreditRepair.com is a service that truly helps people achieve financial freedom. A low credit score can hold people back from low interest rates – in fact, it can even prevent people from being approved for a mortgage, car, credit cards or even a loan.
Everyday people trust the experts at CreditRepair.com because they offer a process that has been developed, refined and proven of many years and thousands of customers. Members will work with people who are not only experts in the credit repair field, but also experts at helping individuals meet their credit goals through a customized, powerful 3-step process. If you are worried about your credit, CreditRepair.com is a great place to start building it back up!
How do I establish credit if I don’t have a credit history?
What if instead of bad credit you have “no credit?” This can happen when you have never opened a credit account in your name alone. I have a lot of clients, particularly women, who come to me with no credit. This is because they were only authorized users on their spouse’s credit card accounts but never actually had their own accounts. Therefore the credit history accruing was in the name of their spouse only.
I recently read a CNBC article that called these persons “credit invisible.” I think that is a great name. Being credit invisible can be just as problematic as having bad credit. Please consider this scenario:
You want to leave your spouse and know that you can’t stay in the marital home for financial or abuse reasons. So you apply for an apartment but the landlord turns you down because you have no credit. Where do you go? Do you stay in the marital home you were trying to flee because you can’t get your own housing? Or, maybe you can get the apartment but the landlord requires an additional security deposit. What if you don’t have the extra funds?
Consider another example:
You and your spouse are on a family cell phone plan. You want to get your own plan, but again, have no credit. The cell phone provider may deny you a plan or require a security deposit to extend you an account. What if you don’t have the money for the deposit?
So how do you actually establish your credit history?
I could go on and on with examples. You need credit. Plain and simple. However, you can establish credit without racking up credit card debt. Here is my step-by step guide:
- Open one credit card with a major credit company (MasterCard, Visa, etc.);
- Use the account for a few purchases each month, such as for gas or groceries;
- Pay off the balance each month to avoid finance charges;
- Make sure you pay on time to avoid late fees and establish a good payment history;
- Do not open multiple accounts at once. This will make you look like you are desperate for credit and can hurt your score; and
- Keep the account open.
While it may take a few years to establish a good credit history, you have to start somewhere. Follow the above steps and you will be on your way to a credit score that you can use to help you post-divorce and beyond!
So what do you need to know about how to use credit after your divorce?
Whew! This was a long one. As you can see, there are a lot of things to know about credit and your divorce. After reading this article I hope that you:
- Understand the different types of credit and why it is so important to your financial health;
- Feel comfortable with the definition of a credit score and what factors are considered in determining that number;
- Know the difference between a hard and soft credit inquiry and when to use both;
- Have additional methods to protect your credit during a divorce; and
- Can utilize my step by step guide to establish a good credit history when you have no credit.
Looking for what to do next to help you to get to your best post divorce life?
Want to make sure that you don’t miss any of my tips and tricks for navigating the divorce process? Make sure that you sign up for my weekly newsletter where I recap the week’s articles and provide some additional promos and content just for my subscribers. You’ll get a FREE post-divorce checklist just for signing up!
Or, have you just separated from your spouse and don’t know what to do next? It can be difficult to determine where to start first. Don’t worry. I got you! Get my FREE checklist for what to do when you are newly separated. You don’t want to miss it!
Have a question about how to use credit during and after your divorce? Leave a comment below or send me an email!