How credit cards impact your credit score


When it comes to achieving a high credit score, credit cards can be a double-edged sword. Depending upon how you use them, you can increase your score dramatically or suffer a precipitous drop.

Credit cards typically weigh more heavily on credit scores than other types of debt because they give greater insight into how you make borrowing and debt management decisions, says Rod Griffin, director of public education for credit scoring company Experian. "The consumer determines how much they're going to charge and how much they're going to pay each month, so there's that element of free will that you don't have with other types of debt," Griffin says.

While every credit scoring system has its own unique model, here's how some common credit card habits can make or break your score.

How credit cards impact your credit score

In general, owning a credit card is good for your credit score. Credit scoring systems want to know that you can handle different types of debt so they look for a mix of both revolving debt (loans such as credit cards that are open ended and have a variable interest rate) and installment debt (loans such as car notes that are paid back at regular intervals over a set period of time). Your credit mix accounts for 10 percent of your FICO score, the most popular scoring model, which lenders use to determine your credit risk.

If you don't have a credit card, it is possible to show that you are a responsible borrower and build a good credit score if you have a mixture of other types of loans, such as mortgages and car notes. However, if your goal is to get as close as possible to the top FICO score of 850, your chances would be better if you "get one good reward card that fits your lifestyle and use it responsibly," says Anthony Sprauve, a spokesman for FICO.

Opening credit card accounts
Whenever you apply for credit, card issuers run a credit check. The higher your credit score, the more likely you are to pay your bills and the lower the interest rate will be on your new card. A large number of credit inquiries in a short period can lower your credit score since research shows that people who are looking for credit are more likely to get into financial trouble than those who are not. While opening new credit card accounts may cause only a temporary drop, it could make a difference if in that same period you're trying to make a major purchase such as a car or a house.

However, opening new credit card accounts can also have the opposite effect. One factor that helps to determine your score is the amount of debt you have relative to the amount of credit you have, which is called the credit utilization ratio. The less available credit you use -- or the lower your credit utilization rate -- the better. So if you have $500 in credit card debt and a $1,000 total credit limit, your credit utilization ratio is 50 percent. However, if you open another card account, which raises your total credit limit to $2,000, your credit utilization ratio drops to 25 percent, which could help your score. That's what happened to Elysia Stobbe of Jacksonville, Florida. When she opened a new credit card account, she had more available credit and "it brought my score up about 60 points," she says.

Closing credit card accounts
If you've ever dug yourself out of credit card debt, you may be tempted to close credit card accounts you no longer use so you won't be tempted to run up those balances again. But that could hurt your credit, points out Nessa Feddis, senior vice president of consumer protection and payments for the American Bankers Association. Closing an account could cause your credit utilization ratio to rise since you'll have less available credit. So if you can't trust yourself with the card, instead of closing the account, you may choose to simply cut up the card or put it away in a safe deposit box instead.

The consumer determines how much they're going to charge and how much they're going to pay each month, so there's that element of free will that you don't have with other types of debt.

-- Rid Griffin
Experian director of public education

Running up high credit card balances
Though credit cards can be a powerful financial tool, they have the potential to damage your score if you use too much of what's available to you, says Christopher Viale, chairman of the Association of Independent Credit Counseling Agencies (AICCCA).

The amount of debt you carry accounts for 30 percent of your FICO score. It also has a big influence on the VantageScore, a scoring model created by credit scoring companies TransUnion, Equifax and Experian. If you can't pay your credit card balances in full from month to month, try to keep your balances as low as possible, says Sprauve. "When you get up above utilizing more than 30 percent, that begins to hurt your score," he adds.

Making late credit card payments
One of the most damaging habits you can have is failing to pay your bills on time. Your payment history makes up 35 percent of your FICO score and is the most influential factor in your VantageScore. If you're making late credit card payments -- or not making payments at all -- your score will suffer. But if you always pay your bills on time, you can give your score a boost.

Putting the knowledge to work
Understanding how credit card usage affects your credit score is only useful if you apply it to your specific situation. There's no universal strategy, says Griffin. What hurts one person could help you.

When you purchase a credit score, it will come with an analysis of which factors most affect your score. For example, it might tell you that you have a lot of credit card debt or point out that you have multiple late payments. Once you have that information in hand, you can make the recommended changes.

One of the keys to a high credit score is using credit cards responsibly consistently over a long period of time, Griffin says. "There is no quick fix."

See related: FICO's 5 factors: The components of a FICO credit scoreOn-time payments cure the stinkiest credit

Published: October 22, 2014

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