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Financial Pet Peeve: The Worst Credit Score Myth of All

   Posted On: March 3, 2016  |    Posted In: Personal Finance 101  |     Posted by: Broke Millennial®

There is a perverse myth that’s taken hold in our recently credit-score-obsessed culture. A myth so upsetting to my delicate feminine emotions, it leaves me longing for the days of fainting couches. This myth is doing damage to the already weakened bank accounts scores of millennials attempt to fatten each month. This myth is my Lord Voldemort, my Lady Macbeth, my Ivan Drago…you get the point.

Myth: Carry a balance on your credit card  

NO, God. NO. God, please. NO. NO. NOOOOOO.

There is absolutely no need to carry a balance month-to-month. To clarify, this myth suggests that you are not paying your balance in full. Instead, you pay at least the minimum due or an amount close to the total, but leave a little bit left to carry over.

Origin of the myth (well, my assumption)

Yeah, yeah I know all about making assumptions, but I’m pretty sure I’m right about this one.

There is a general confusion about carrying a balance and having a statement balance. A confusion the banks have no interest in correcting, because you misunderstanding what it means to have a balance verse carry a balance earns them extra money in interest payments.

For the love of God, don’t pay interest to the banks! You can build a strong credit score for free.

Truth: You need to have a statement balance, but pay it off on time and in full

You actually have to use your credit card in order to get kudos from your credit card provider that you’re a responsible borrower. However, the usage doesn’t count if you pay off your purchase the moment it posts to your online dashboard. For example, you just bought dog food in bulk for your adorable little budget buster and charged it on your credit card. It posted to your account three days later and you immediately pay it off.

This instant payoff tactic means that you’ll have charged $0 and owe $0 when your statement cycles. Even though you actually did use your card, if it doesn’t show as owed on your monthly statement then it didn’t actually happen. Consider this the “if a tree falls in the woods” of credit scores.

In the eyes of your credit card provider, this strategy means you aren’t irresponsible nor are you responsible – you just are.

The credit card provider reports to the credit bureau that you didn’t utilize your credit at all – which means 0% utilization. That’s like getting an incomplete on 35% of your credit score because utilization is a major factor in determining your credit score. 

So, what’s a diligent millennial hoping to build a strong credit score to do?

The easiest strategy is to make one or two small purchases per month. Then wait until the statement arrives and pay it off in full.

Screen Shot 2016-03-02 at 10.46.20 PMYou should be able to tell when your billing cycle ends by looking at your account online or the most recent statement. You can also set up text alerts, email notifications or an old school letter to ensure you don’t miss when the bill comes due. The black belts of budgeting will also feel confident enough to automate their credit card payments, so the bill is paid on time and in full. Automatic is also an easy strategy if you only charge a Netflix subscription and your cell phone bill, so you know exactly how much your statement will be each month.

Solution: Small charge. Wait for the bill. Pay it off on time and in full. Rinse. And. Repeat.

The other tip is to ensure you spend no more than 30% of your total available credit limit per month (that means no more than 30% of the credit available across all your cards). Brownie points if you stay in single digit utilization.

To make this personal, I have six credit cards with the following credit limits:

  • $11,000
  • $8,000
  • $4,500
  • $4,000
  • $4,000
  • $3,800

This equals a grand total of $35,300 in credit available to me each month.

I need have no more than $10,590 across my statement balances to be in good shape. Spoiler: this isn’t a problem.

Most months, I spend less than $2,000 on my credit cards and typically stay around 5% utilization.

Why does this matter?

Screen Shot 2016-03-02 at 11.13.58 PM

It matters because I’ve never had another form of credit in my life (no student loans, no mortgage, no auto loan, no personal loan) so this is the only way I build credit. And with this, I’ve managed to be a 700+ FICO credit score, and once even break 800, without paying a penny in interest.

All it takes is making a small charge and paying it on time and IN FULL!

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20 responses to “Financial Pet Peeve: The Worst Credit Score Myth of All

  1. Great post! I can’t wait until we can pay off our credit cards. We will never voluntarily carry a balance on our cards again.

    PS – Love the clip. Mr. Smith and I have been watching The Office on Netflix. It never gets old. “Question. Which bear is best?”

    1. Are you watching The Office for the first time ever?! If so, jealous that you get to experience all the goodness for the first time.

  2. Yeah, I’ve heard that you need to use your card which will keep it active on your reports, but there’s absolutely no need to carry a balance. To be honest, though, I’ve not heard this widely said, so hopefully this isn’t too big a myth you’re debunking.

    1. Unfortunately, it’s a regular question when I do presentations with college students and even chat about credit card usage with my own friends. I’ve had people tell me their parents told them to carry a balance!

  3. Thank you for the post! I’ve been using my Target card, but just paying it off immediately, so this is a good reminder that it isn’t the best way to do it. I don’t know if you know this, but car financing uses a special car optimized FICO credit score. My score was more than 50 points lower when I applied for my auto loan. I just wanted to share, so you know what’s coming if you ever do apply for an auto loan.

    1. Thanks for sharing your experience. There are actually tons of different scoring models. Plus, banks and other lenders can also customize their own. Just makes the entire black box of FICO even more complicated, but if you know your in the high 700s or 800s, it’s pretty likely you’ll be close on other models.

  4. It’s crazy what some people will believe. I always pay my credit cards off in full. However, you should still use the card, even if you just buy a pack of gum and then pay it off immediately. When I WAS making minimum payments (on a 0% interest business line of credit), my credit score was never negatively impacted, but it stayed the same. Consistently keeping a low UR and paying off the balance in full is what made my score creep up.

    1. Paying it off immediately though causes you to have 0% utilization unless you have something on the bill when it cycles. You should let at least a $5 purchase be on the bill and then pay that off on time and in full. Bills should ALWAYS be paid in full, but something needs to be on the bill to build (or improve/maintain) a strong credit score.

  5. Nice strategy! With all those credit cards and credit limit, I have to say that you manage it really well. I hope that you hit again the score 800. Congrats!

    1. Thanks, I hope so too! Just keeping with my utilization ration in the single digits and it’ll come back around.

  6. Thanks for sharing this. There’s a lot of misinformation out there, so it’s so important that people set records straight like this.

  7. I am one of those crazy followers of the “Dave Ramsey” get out of debt plan but I have to disagree with him on this aspect of it. My wife and I are currently getting out of debt but I believe in the use of credit cards exactly how you laid it out. They shouldn’t be something that has to be used. They should be used correctly and paid off fully. Doing this can do nothing but help. Don’t tell Dave I said that!!! Great post!

    1. Thank you for disagreeing with him! This (and the 12% return on investments) are two pieces of advice that I just completely disagree with from Dave. Having a credit score is just a smart financial move to make. I think of it as financial product insurance. If everything went upside in my life and I needed a loan, at least I could get a really good one! Considering I’ve never missed a payment and always paid in full, I’ve never considered it being in debt either. Thanks for stopping by.

  8. I have gone back and forth between using my debit card or credit card and always choose my credit card for the points! Travel hacking has become a love of mine. Sometimes I’ll put thousands of dollars in tuition on my credit card versus debit just for the points. You DO get points even when you pay off the balance immediately unlike getting the credit score points you mentioned above where you have to way for the statement. It’s a great way to earn free flights – as long as you can pay off the balance!

  9. You would think people who make it through life without borrowing would be great credit risks. Time to start a credit rating agency. Or a loan company that loans to the debt free.

  10. If you had other forms of debt to boost your credit score, would you say it’s still necessary to have a credit card? I’ve been going back and forth on this. My credit score is decent, but not good or great. I’ve only ever had one form of debt – my student loans – and the amount I still owe is pretty high. I’m not sure exactly how much my score will improve once my student loans are 100% paid off. I hate the idea of taking on another form of debt, but I want to make sure my credit score is in good shape when I’m ready to buy a house or a car.

  11. My biggest financial peeve is paying any fees! I avoid them like the plague. When I refinanced my mortgage around 8 years ago, I even went through the expenses with the lender to throw out the garbage fees. I tried to negotiate lower rates too. I was refinancing from a 30 to 15 year mortgage with the same lender, so I felt I had some leverage.

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