If you’re looking to improve your credit, you’re probably reading as many personal finance books as you can, taking workshops, consulting with financial professionals, and talking to friends and family. However, it is important to make sure you steer clear of bad money advice, especially when it comes to credit management. The worst advice is based on myths that continue to get passed on from consumer to consumer.
A Capital One study of consumers who were rebuilding or establishing credit found that a lot of confusion exists when it comes to credit cards. While roughly 53% of respondents said they were very confident when it comes to understanding credit, about 31% said that closing unused cards was good for their credit score and about 52% thought carrying a credit card balance from month to month was also beneficial.
Following erroneous money advice could put you on the wrong path and negatively impact your financial health for years to come. The Cheat Sheet reached out to financial experts to ask them about the worst credit card advice they ever received or heard. Here are 5 big points they want to warn you about.
1. Carry a balance
The worst credit card advice I’ve heard is that you have to carry a balance and pay interest in order to build your credit score in the best way. It’s simply untrue, and yet many of my clients come in with that misunderstanding. It’s an idea perpetuated by banks and financial institutions who stand to benefit from making people think that.
The better advice is to first pay off your credit card balance completely if you’re carrying debt. Then, don’t close out the card — this will drop your credit score in most cases. Instead, leave it open and just charge one small bill or purchase to it every couple of months. When your monthly billing cycle is over and you get your statement, pay that off in full before the grace period is over, thus not paying any interest. This is the best way to use credit cards to build and maintain a good credit score, and you don’t have to pay more than you normally would on a necessary expense.
The only other thing I’d add is that when it comes to working with banks and financial institutions, use their products and services (cards, accounts, loans) but forget their advice on how to use them. It’s not geared to help you.
Justin Chidester, accredited financial counselor at Wealth Mode Financial Planning
2. Use all of your savings to pay off debt
The worst advice I ever took ironically came from my accounting professor in college. I had $10,000 in my savings account that I had worked my butt off to save while working two jobs. I had credit card debt and my professor recommended I empty out my savings account to pay it off. His logic was this: I pay more in interest on the credit card than I make in the savings account. I didn’t feel comfortable doing that but thought he would know better than me. He’s a CPA and an accounting professor, so who was I to argue? So, I followed his advice and enjoyed one month of debt freedom. Then my car broke down and a couple of other things went awry, and having no savings left, I immediately went back into debt. So I had no savings and new debt. Now as a CFP®, savings is priority one, then we work on everything else. If you don’t have emergency cash you’re setting yourself up for failure.
Mel O, certified financial planner at Hot Moon Financial
3. Max out your credit cards or carry a balance to prove you can pay it back
One bad piece of advice I’ve heard is that it’s good to max out your credit card or carry a balance on your card for a few months and pay some interest then pay it off to prove to the credit card company you can pay your bills. Paying interest doesn’t help your credit scores, it just costs you extra money. Instead, credit utilization, which is how your balances compare to your credit limits, is a major factor in credit scores. Lower balances compared to credit limits are seen as better by credit scoring models. This can be achieved by keeping balances low by paying in full each month and increasing credit limits. Maxing out a card is the opposite of this, and is not necessary to prove that you should get a credit limit increase.
Most credit cards have a 20- to 25-day grace period from when the statement is generated to when the balance is actually due. That balance on your statement is reported to credit bureaus. Keeping that as low as possible, without hitting 0%, will typically maximize your credit scores. If your reported balance (the balance on your statement closing date) is going to be a high percentage of your available credit, you could make a payment early, before the statement period closes, to get your percentage as low as possible without making it 0%. This will avoid interest while maximizing this major aspect of your credit scores.
John Ganotis, founder of CreditCardInsider.com.
4. Close old accounts
A piece of bad credit advice: If you think you have too many credit cards, start closing old accounts. It seems like this advice should be correct, but it’s not. Here’s why: The length of your credit history is part of the credit score equation, so closing your oldest accounts actually makes it look like you have a shorter credit history. This is especially important if you are in your twenties or are fairly new to credit. It’s also important if you plan to seek a mortgage or other loan in the near future. Lenders like to see a longer credit history, and you don’t want to sabotage that by closing an account that is not hurting you. Feel free to cut up the card if you don’t use it, but don’t close the account.
Adam Jusko, founder and CEO, Credit Card Catalog
5. Stop paying on your credit cards
The worst credit advice I heard is to stop paying your credit cards and use a debt relief company that will stop paying your cards until they can negotiate the debt down after many months of non-payment. This ruins your credit. My client did not take the offer with my guidance. Instead, we worked on getting her current credit card debt paid down so she had more available credit, and her credit score improved greatly. Not only that, as she started paying off credit cards (she had over 15 of them), she started feeling empowered and less encumbered with worrying about making all the payments on time. In just four to five months, she has paid off many of the cards.
Bonnie Gayle, financial educator