How charge cards affect credit scores
Dear Liz: I’ve followed your advice on building credit and now, at 20, have credit scores around 730. I recently applied for and received an American Express gold card. But I’ve read that charge cards can hurt your credit score, or at least not help it. Should I use this card?
Answer: Charge cards require you to pay your balance in full every month, unlike credit cards that allow you to pay only a fraction of what you owe. You typically need good credit scores to qualify for a charge card, and it can be an excellent way to manage your finances without incurring debt.
The concern with charge cards used to be that they didn’t report credit limits. Unlike credit cards, charge cards typically don’t have preset spending limits. Without a reported credit limit, credit scoring formulas often used the highest reported balance as a proxy. If you charged about the same amount every month, it looked to the formulas as if you were using most or all of your available credit.
But the most recent versions of the FICO — the credit scoring formula used by most lenders — now make allowances for charge cards. The amounts you charge on your gold card won’t be factored into the FICO’s credit use calculations, but having and using the card responsibly will still benefit your scores.
Congratulations, by the way, on achieving good credit scores so young. If you continue to manage your credit responsibly, you can save hundreds of thousands of dollars over your lifetime in reduced interest rates and lower insurance premiums.
Dear Liz: I was surprised to see your recent comment that “having a credit card does not make you a slave to lenders, unless you’re stupid enough to carry a balance.” So, all individuals who carry a credit card balance are stupid? Is that what you are trying to say?
Answer: There are a few legitimate reasons to temporarily carry a credit card balance. If you suddenly lose your job, for example, you may want to conserve your cash and pay only the minimums on your cards.
But for most people, carrying a balance is a sign that they’re living beyond their means. And that’s pretty stupid. Here’s another perspective:
Dear Liz: What you said about carrying credit card debt was spot-on. My wife and I have never paid a dime in interest on our credit cards, and our credit rating is high. None of our cards have annual fees either.
One thing you didn’t mention is that with many of the reward programs that many cards have, we’ve made out like bandits (“cash back,” free flights, etc.) simply by using our card to buy things that we would have bought for cash anyway if we didn’t have the cards.
One other point: It might be good to advise readers that if they have a card, they should use it occasionally. We had one bank cancel our card because we never used it (our others had better rewards programs!), and having a card canceled (for any reason) can look bad on one’s credit report, correct?
Answer: It can, which is why you should try to keep your accounts active if you’re trying to improve your scores or you’ll be in the market for a major loan, such as a mortgage or an auto loan, any time soon. You can keep a neglected account active with little effort by having a bill charged automatically to a card and then arranging an automatic payment from your checking account.
You shouldn’t, however, be fearful about closing an occasional account if your scores are already high and you won’t be applying for new credit soon. Closing an account or having one closed shouldn’t have a major effect on your scores, and any ding you suffer would be temporary.
Liz Pulliam Weston is the author of the book “Your Credit Score: Your Money and What’s at Stake.” Questions for possible inclusion in her column may be sent to 3940 Laurel Canyon, No. 238, Studio City, CA 91604, or via the “Contact Liz” form at asklizweston.com. Distributed by No More Red Inc.
