Opening New Credit Cards and your Credit Score
A brand-new credit card can impact your credit score in numerous ways. In the early stages, your score will suffer a slight drop depending on how high it was to begin with. Once this period is out of the way, you can work on steadily improving your score, building a high credit limit and earning yourself a reputation as a respectable borrower.
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How Opening New Credit Card Accounts Can Affect Your Credit Score
Several things will happen to your credit score when you apply for a new card. In the short-term, these will negatively impact your score, but if you meet your obligations and there are no late payments or other issues, your credit score will gradually improve.
Take a look below to see how this can both reduce and improve your credit score.
The Negative Changes
A lender nearly always initiates a hard inquiry when you open a new account. This provides them with the same information as a soft inquiry, but while a soft inquiry won’t affect your score, a hard inquiry can reduce it by as many as 5 points. This mark lets other lenders know that you’re applying for credit elsewhere and if you apply for a number of different accounts in a short period of time, it can reduce your credit score significantly.
Rate shopping will bundle many hard inquiries into one, providing they are all for the same loan type and occur within a predefined period (between 14 and 45 days depending on the credit scoring system). However, rate shopping doesn’t apply to credit cards and all credit card applications will receive a separate hard inquiry.
Your FICO score is also negatively impacted by new accounts, so it will take a further hit once this credit account becomes active.
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FICO hasn’t been very clear with regards to what they consider to be a new account, but generally, you’ll see these effects diminish after 6 months and disappear after 12.
Finally, the total age of your accounts will reduce due to the new credit card. Your average account age forms another big aspect of your credit score and every time you open a new account, this is reduced.
The Positive Changes
A new credit card can also impact your credit score in a positive way, you just need to give it a few months and use it carefully. Keep a close eye on your credit card account, pay off your balance in full every month, and before long you’ll see an improvement in your payment history.
After 12 months, the effects of the hard inquiry will disappear, the account won’t be considered new anymore, and it will start having a positive impact on your credit score.
A new credit card can also improve your credit utilization ratio and you’ll see an almost instant increase. Credit utilization compares your available credit to your total debt or used credit. The less credit you have used, the higher this aspect of your score will be. Unless, that is, you instantly use the credit and max out your card, in which case your credit score will take a hit.
How to Build Credit with Credit Cards
Credit card companies offer credit cards specifically designed with bad credit and no credit consumers in mind. These fall into two categories, “Secured” and “Unsecured”. A secured card is convenient, safe and doesn’t offer high credit limits and interest rates. An unsecured card is the opposite and because your credit is low, it’s often provided with very high-interest rates and unfavorable terms.
In both cases, you need to avoid late payments and, preferably, clear your balance in full every month. The moment you start leaving those balances to generate interest is the moment your debt gets away from you.
The Best Ways to Use a Credit Card to Build Credit
A secured credit card can help you to build a strong credit score quickly and without the risk of acquiring a high credit limit. The card is secured against a cash deposit with a credit limit set to the same level as that deposit. If you default, the lender can simply take your deposit and settle the account, although you’d have to be in pretty dire straits to be defaulting on a secured credit card.
Credit card companies that provide secured cards offer upgrades, rewards, and additional features. You can earn cashback and perks, and if you meet your payment obligations for several months you may be offered an upgrade to an unsecured card.
If you’re using an unsecured credit card, make sure you clear the balance in full every month, which means never spending more than you can cover in cash.
How Much Should You Spend?
Ideally, you should look to spend no more than 10% of your credit limit every month. This will ensure that your credit utilization stays low and that your balance is manageable. Unless you have a disproportionality huge credit limit, 10% should be more than manageable and you could even increase this to 20%, providing you have the cash to cover it.
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If it’s your only credit card or your other cards have been maxed out, you can go as high as 30% but should avoid going any higher. This will ensure your credit utilization stays strong, but it also prevents your balance from spiraling out of control.
Many debtors are able to clear their balances every month for at least the first few months. Some go years. At this point, they get overly confident in their ability to clear their balance, only to be hit with unexpected expenses or a reduction in their income, after which that balance isn’t cleared and begins to get away from them.
If you find yourself in this situation, it’s important to try and clear as much of the balance as you can. It’s not all or nothing—the more you clear, the less interest you will play and the less your credit score will suffer.
Managing Multiple Credit Cards to Improve Your Credit Score
Once you get over the initial hump, multiple cards can actually benefit your credit score. Assuming you clear your balances and don’t max them out, multiple cards will improve your credit utilization ratio, which accounts for a massive 30% of your FICO score. More cards also mean more accounts and additional chances to improve your payment history.
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Keep the following in mind to manage multiple cards successfully:
Check your balances regularly and monitor every dollar that you spend. It’s easy to get carried away, spending $500 here, $200 there…before you know it, you have accumulated a monthly balance larger than what you can easily repay. At that point, you’re tempted to let one of those balances tick over, the interest accumulates, your responsibilities spiral, and within a few months you’re in a mess of your own creation and your credit score plummets.
10% of your credit score looks at credit variety. If all you have is credit cards, this aspect of your score will suffer and your overall credit score will drop.
You should never take out a loan just to add variety to your credit score, as it will do more harm than good in the short term (due to the hard inquiry and new account) and it is an expensive way to gain a few points.
If you have multiple cards already, however, and you don’t have anything else, you might want to think twice about signing on anymore dotted lines, at least until you’ve looked into other options or acquired a home/car loan.
Careful When you Cancel
Your credit utilization score punishes you every time you reduce your credit limit or increase your debt. If you have 4 credit cards with $10,000 worth of debt on each and they’re all maxed out, your credit utilization will be an appalling 100%. If you clear one of those cards, it will drop to 75%, which is still terrible, but is a big improvement. However, if you then cancel that card, it will return to 100%, because now you have $30,000 worth of credit and $30,000 worth of debt.
Keep the cards open and use them only in emergencies. If they’re costing you a lot in annual fees, then think about cancelling them in the future, but only when you know that your credit score can take the hit.
If you’re using a lot of credit cards, you might as well benefit from them. Rewards cards provide you with cashback, air miles, and other perks every time you spend. The return can be as high as 5%, although in such cases it’s often limited to a fixed annual spend.
Don’t spend more just to increase your returns. That’s exactly what they’re hoping you will do, it’s human nature, and it’s a terrible idea. Just find a good rewards card and then forget about the points and cashback—pretend they’re not even there and use your card just like you would if they weren’t.
At the end of the year, those rewards will give you a nice surprise in the form of a discount or cash sum, which you can use to pay off any accumulated debts or treat yourself.
What Happens if I Have a Lot of Credit Card Debt?
If you have credit card debt on multiple cards, you have a few options. The first is debt management or debt consolidation, which will swap a single low-interest loan for all those high-interest debts. However, these options are performed on your behalf by a third-party, they can incur costs, and they aren’t always kind to your credit report.
If you have a respectable credit score, you can try a balance transfer credit card instead. These cards offer an intro APR of 0%. This covers all balance transfers and lasts for 6 to 18 months, depending on the provider and the card. During that time, you can continue to make monthly payments, clearing substantial amounts of your principal and edging ever closing to clearing your debts in full.
Be careful, though, as these cards may have several disadvantages when the introductory rate ends, including a high-rate variable APR, a high annual fee, and more.
Best Credit Cards to Help Your Credit Score
If you’re looking to build a strong credit report, avoid credit card debt, and establish a low credit utilization ratio, then try these cards.
Discover It Secured
The Discover It card is one of the most popular credit cards in the United States. The secured version is just as sought-after as the unsecured one, and it also offers a 1% to 2% cashback scheme, with a $0 annual fee and a relatively low variable APR once the introductory period ends.
You need to provide them with a security deposit of at least $200, along with details of your bank account. That deposit will then become your credit limit and you can use it to make purchases anywhere Discover is accepted, which covers millions of retailers and points-of-sale in the United States.
Discover is the third biggest network here in the United States and you shouldn’t have an issue finding places that accept it. The same can’t be said for international retailers, however, as it’s practically unheard of outside of North America. Still, that’s a pretty small setback when you consider all the other benefits this card can provide.
Capital One Secured MasterCard
If Discover’s limited international reach is a concern, try the Capital One Secured MasterCard instead. The APR tends to be a little higher and there is no rewards scheme, but as with the Discover It, there is no annual fee and it can help you to build credit by reporting to the three major credit bureaus.
This card has a few other benefits, including the fact you can deposit as little as $49. If you’re looking for a glorified prepaid card and all you care about is the way it can improve your credit score, this is ideal. What’s more, once you have made your first 5 payments you will be given access to a higher credit limit and can start moving through the ranks.
First Progress Platinum Elite MasterCard
If you have the luxury of choice, we would always recommend the Capital One or the Discover. These cards pretty much corner the market and provide everything you need.
However, if for whatever reason you’re refused those cards or simply don’t like the companies offering them (everyone has their reasons) this is a good alternative. It provides 24/7 access to your account and allows you to leave the program and collect your deposit at any time.
The First Progress Platinum Elite MasterCard also has the fastest application process, with no checks, no demands, and no time wasted—just apply, deposit, wait, and you’ll have your card before long.