Sean Talks Credit: The Credit Trap of Limited Access

By Sean McQuay

It's not news that millennials, on average, are less likely to use credit cards than previous generations. What appears to be newsworthy, though, is the ongoing search for the cause.

The New York Times is the latest to take a stab, stressing the role of fear in young people's decision to steer clear of credit cards. Specifically, the fear of running up debt by using credit cards indiscriminately.

Sure, millennials have good reason to be wary. As I told Money magazine in an interview recently, the Great Recession conditioned us to want to resist debt in all its forms. But aversion to debt is only part of the story. Just as significant, if not more, is the fact that many millennials lack the access to credit cards that previous generations enjoyed. NerdWallet hears all the time from millennials who want credit cards but can't get them.

There are two main reasons for this, and they're intertwined. One is that credit cards are, by law, much harder for young people to get than they used to be. The other is that millions of Americans -- not just millennials, but from all generations -- have a subprime credit profile that sharply limits their financial options.

And the kicker is, there's not really a great solution for this mess.

Credit cards matter for building credit

Building credit, like so many other things in personal finance, favors those who start early.

Your credit score measures how trustworthy you are when handling someone else's money -- and it takes time to build that trust. Holding on to your friend's $100 bill for 10 minutes without spending it might not be an impressive feat. But what about a year?

You build credit by borrowing money and then paying it back responsibly, whether through a student loan, an auto loan, a personal loan, a mortgage -- or a credit card. The first four of those carry significant life commitments and burdens. Credit cards don't. That's why they're the simplest and safest way to build credit.

As for the fear of debt cited in the Times article, here's the most important point: Carrying a credit card does not guarantee you'll get into ruinous debt any more than owning a car guarantees you'll die in a fiery crash. Credit cards are a tool, and how you use them is entirely within your power. As long as you spend within your means, you won't have any bills you can't pay.

Millennials' options have dwindled since 2009

If you're over the age of 25, you may remember seeing booths on your college campus during registration or orientation where students could apply for credit cards and bring home Frisbees, food and T-shirts in exchange. I once signed up for a card in return for a sandwich. That's how easy it used to be for young adults to get credit cards. No job or proof of income was required. Just fill out the application, and the card came in the mail a couple of weeks later.

The Credit Card Act of 2009 made it illegal for card issuers to offer those kinds of incentives. More importantly, the law made it a lot harder for people under 21 to get a new credit card unless they have significant income or an existing credit profile. Even "student" credit cards are out of reach for many college students.

Today, if you're young and want to build credit, you need to be proactive about it. That could mean having your parents add you as an authorized user on their cards, asking a parent or someone else to serve as a co-signer for you, or using a service that reports your rent payments to credit bureaus. Building credit as a student is definitely not impossible, but it is harder.

Parents of young adults often don't know any of this, unaware that anything has changed since their day, and their kids are oblivious to the silent damage caused by delaying building their credit.

The Times article mentioned changes to the law in passing, but kept its focus squarely on millennials' fear of debt.

This isn't just a millennial problem

About 30 million millennials have "subprime" credit, according to a NerdWallet study. This generally refers to anyone with a credit score under 600, which is the threshold for getting remotely competitive loan rates or a decent credit card. An estimated 18 million older adults are also subprime. All told, more than 1 in 5 American adults fit the definition.

Many millennials are subprime not because they have bad credit, but because they have a thin credit history. And yet the effect on them is the same. Even those with good jobs making decent money can find themselves rejected for a credit card because of their subprime credit. When "starter" credit cards went away, their entrance to the credit pipeline was closed -- and now there's no easy way in.

People with subprime credit are stuck in a trap. They arguably need more financial help, not less, but they have far fewer options than other consumers do. And the options that are available to them come at a much higher cost.

The same NerdWallet study looked at credit card issuers that specialize in the subprime market, which often employ predatory practices. The terms and conditions on these issuers' cards are needlessly complex, and they charge myriad fees, regardless of whether cardholders pay on time. They claim to offer a way out of the credit trap, yet in many ways they perpetuate the problem. For Americans struggling to build credit, these cards at least offer some hope. But they aren't the best option -- not even close.

Secured credit cards are a little-advertised but powerful tool designed for subprime consumers. With these cards, you have to put down a refundable security deposit, which protects the lender in case you default, but otherwise they operate like regular credit cards. The study found that they offer savings of $125 per year, on average, compared with cards offered by the subprime specialists.

A big problem, without a big solution

So what's the best option for building credit? It depends on your situation.

Millennials in college can get a student credit card or become an authorized user on a parent's credit card. But these paths are limited -- student credit cards require applicants to have a regular income, and becoming an authorized user only makes sense if the parents have stellar credit.

People with "thin" credit files, like non-student millennials and immigrants, can begin building credit with a secured card, but even these have their limitations. The security deposit is usually equal to your credit limit, which means you either have to tie up a lot of money in the deposit or deal with a very low limit. The minimum deposit is typically $200 or more, which is a barrier to many people with subprime credit. They have to save up that money over time, and only then can they start working on their credit.

For many subprime Americans, there just isn't an easy answer. Most credit-building strategies assume that you're starting with some kind of resource you can tap -- a family member or friend to let you piggyback on their credit card, or some savings you can use for a deposit or to cover credit card fees. Those who don't have such resources will have a hard time building credit in the U.S.

The cause of their plight isn't just their fear of debt. It's also the system -- and, for them, the system is failing.

Photo courtesy of NerdWallet.

Sean McQuay is a credit cards expert at NerdWallet. A former strategist with Visa, McQuay now helps consumers use their credit cards more effectively. If you have a question about credit, shoot him an email at The answer might show up in a future column.