Debt, damaged credit ratings among potential hazards to young consumers
Students and young adults have become targets for credit card companies looking to take advantage of the irresponsibility and lack of financial maturity among young consumers.
“When you don’t manage it effectively, a credit card can drastically damage your consumer credit,” said Catherine Sale, financial literacy coordinator. “I have seen students come into the [financial literacy office] with five, six thousand dollars in debt and needing a way out. There’s been a huge increase in the number of students trying to declare bankruptcy because they are trying to balance overwhelming amounts of student loan debt, but also this creeping credit card debt.”
As 2011 rolled over to 2012, the annual amount of student loans crossed the $100 billion mark, and as a result student debt now exceeds $1 trillion, according to a study done by the National Association of Consumer Bankruptcy Attorneys this year.
Due to these massive amounts of borrowing and spending, there’s been an approximate 50- to 70-percent increase of young adults forced to file for bankruptcy, according to the study. Many of the young adults in this situation have up to four credit card accounts and are unable to pay off any of them.
The reasons students make the decision to sign up for credit cards vary, but the most common reason is to build a good credit history or to use in the case of an emergency, said Eboni Nelson, an associate professor in the law school. Young consumers believe that they will only use their credit cards to pay for small or emergency purchases, she said, but over time people — young adults especially — begin spending irresponsibly.
This irresponsible spending stems primarily from a lack of maturity. Swiping a credit card can become “mindless,” Sale said, because consumers have no contact with the money they’re actually spending. It’s often not until they receive the bill, she said, that they realize how much money they’ve spent — and it’s often too much for unemployed students to handle.
Account holders who can’t pay off their credit cards each month will start paying only the low required monthly payment, which can form bad financial habits, Nelson said, and credit card users should be aware that paying the monthly minimum balance isn’t enough to build credit.
In actuality, she said, it can destroy a person’s credit history.
“The student will just start paying the minimum payment,” Nelson, who specializes in commercial and consumer law, said. “If you have a $1,000 balance owed, but your minimum payment is only $25 or $30 a month, you’ll just pay that minimum payment. However, you’re racking up a lot of money in interest fees that you’re going to have to pay. It becomes that $25 for two pizzas is really going to cost you $40 or $50 when you tack on all of the interest.”
In 2009, in light of the severity of credit card debt among young adults, Congress passed the CARD Act, which requires all people under the age of 21 to have a co-signer on their account — or prove that they have enough financial resources to pay the minimum monthly bill.
While the act has helped slow the number of young credit card users, Nelson said, some companies have found loopholes.
“‘Independent financial resources’ can be anything ranging from money in a savings account to student loans to stipends, but you don’t actually have to have income to qualify on your own,” Nelson said. “You can still use student loans, which is debt, to get into more debt, which is exactly what a credit card is.”
While credit cards and loans can cause serious trouble, Nelson said they are also very important and can be effective for building a good credit history.
After students graduate, their credit scores are studied by a variety of people, including future employers and landlords, Sale said.
In order to build good credit, debts must be managed well and paid off responsibly, and Nelson suggested that students become an authorized user on a parent’s account for as long as possible in order to build their credit history.
“This way you can learn those financial responsibility behaviors by being an authorized user on a card without all the temptation of overspending,” she said. “Younger students should really reject the urge and temptation to get a credit card, because they can very quickly, with that freedom, get in over their heads.”