Do You Mean Credit Isn’t Automatically Evil (and Being Debt-Free Isn’t a Bed of Roses)?

Imagine that. The two major takeaways from the SmartMoney.com article are:

1. There are challenges to living debt-free.
2. There are times when having certain debts makes financial sense. For example, having a low-rate traditional fixed-rate mortgage with a rate of under 5%, not paying it off more quickly, and investing money you may have targeted towards paying the mortgage off more quickly in a reasonably aggressive manner will ordinarily leave you with more wealth when the mortgage is eventually paid off.

I’ll focus on the challenges to living debt-free in this post.

The biggest challenge is that if you are truly debt-free, you may not even have any credit established — and if you don’t have credit, you often can’t get credit. “Credit” in the broadest sense includes getting services that you don’t have to borrow money to obtain, but for which you still have to present some kind of proof of financial viability to get access to. In this broad scope, not having credit could even affect your ability to get a wireless phone, to avoid having to put down deposits to get utility, cable, or phone service, or to make other supposedly “routine” purchases.

Then there is the hassle you’ll likely face when traveling. Most rental-car companies insist on having a credit card number (a debit card will NOT suffice. More hotels are insisting that you guarantee your room with a credit card (debit cards are somewhat more likely to work here).

Putting the above potential problems aside, most people aspire to owning a home, and most people wishing to be totally debt-free usually don’t have the money to pay cash for a house. A person without a credit history or having a very sketchy one will often have a tough time getting a mortgage loan approved. It shouldn’t be that way, and if I were king of the world, I would force lenders to consider the absence of late payments on routine bills, such as utilities, wireless phone and the like positive evidence of creditworthiness. If lenders felt like they routinely needed proof (a fair request, I suppose), I would want the service providers I just named to report payment history to the bureaus. Voila, the “problem” of being debt-free without evidence of creditworthiness would be solved.

Since I’m not king (yet), the main ways to head off the potential “no credit, no approval” problem in advance of applying for a mortgage are:

• Get a general-purpose credit card (Visa/MC/Discover/Amex). Use it occasionally, and pay the bill in full when it’s due. The card will at least show up on your credit report (even Amex, as of some years ago). Whether the card’s unpaid balance shows up on the report, even when always paid in full, depends on the card, but I don’t think it matters that much to your perceived creditworthiness whether it does or doesn’t (if you think I’m wrong about that, let me know or leave a comment).
• If you already have a general purpose card or two already but never use them, do the things suggested in the previous step.
• If you can’t get approved for a general-purpose card because of no credit history, get a retail card, for which you will get approved if you either a) have a pulse, or b) can fog a mirror when you breathe. Charge a few things on it for 3-6 months and pay it in full, and you will probably have little difficulty getting approved for a general-purpose card.
• Have a checking account AND a savings account — A surprising number of people who are living debt-free without established credit also live outside the banking system. I like privacy as much as the next person, but this is not a good long-term idea. The credit-application scoring systems (different from your credit score) give a person a lot of points for having an open checking and an open savings account. You may get approved even if you are totally debt-free and don’t have much of a credit history (but don’t take it for granted that this is what will happen).
• Consider borrowing from a credit union where you are already a customer if it offers mortgages. The rates they offer may be a bit better too.

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If you’re not among those with the relatively nice problem of being debt-free, or being debt-free except for a mortgage, you will likely benefit from subscribing to CYMnow.com:

The web site’s easy-to-use model will quickly enable you to set up a spending plan that will work, and will show you specifically how to get out and stay out of debt. Then you’ll be able to work with the (relatively) nice problem discussed in this post.