Having a credit card is a big responsibility and one that should not be taken lightly. Although credit cards can help you build your credit score and give you credit when you need it, credit cards can also lead to long-term debt and damage to your credit score that can take years to repair.
With that in mind, it’s wise to have a plan in place before you start using a new credit card. This planning will help you maximize the benefits of the credit without putting your finances at risk.
If you’re new to credit cards and want to use them as a tool to help you build the life you want, read our 7 Credit Card Tips for New Users.
1. Set up automatic payments
Building credit with credit cards can be easier if you know what makes up your credit score. The most important is your payment history. This factor makes up more than a third of your FICO credit score. So whether you pay your bills late (or on time) will have a big impact on whether credit cards hurt or help your credit score in the long run.
To avoid late payments, set up autopay on your card for at least the minimum monthly payment. When you set up autopay, your credit card bill is automatically paid with funds from your connected bank account.
Also, keep in mind that even if you plan to pay your credit card bill in full each month, you can still set up automatic payment for the minimum payment, which can serve as a backup in case you accidentally forget to pay your bill before your card is due.
2. Use your credit card like a debit card
Remember, if you need to borrow money or carry a balance, a credit card is a poor choice — after all, the average interest rate on a credit card is now over 20 percent.
If you carry a $5,000 balance on a credit card with a 20 percent annual interest rate and pay $150 a month, you’ll pay $2,359 in interest over 50 months while paying off the debt.
Want to know the cost of borrowing money?
Enter your own numbers into Bankrate’s minimum payment calculator.
Of course, it’s best to avoid paying hundreds or thousands of dollars in interest. That’s why when you do use a credit card, it’s best to use it like a debit card, or only for purchases for which you actually have cash in the bank. That way, you can enjoy the perks and convenience of a credit card without getting into long-term debt or paying extra for everything you buy along the way.
To be successful with a credit card, like a debit card, you should only use it for planned purchases and align it with a monthly budget and spending plan. Most credit card issuers allow you to easily pay off your balance several times each month through your online account management page, helping you manage your balance over the long term.
3. Carry a balance only during the card’s introductory APR period
If you have a big expense coming up and need to spread the payment over several months, you should apply for a card that offers an introductory interest rate on purchases. Many credit cards offer an introductory interest rate or 0 percent APR for a year or more on items you buy, balance transfers, or both.
Popular examples include the Discover it® Cash Back (0 percent introductory APR for 15 months on purchases and balance transfers, then 18.24 percent to 28.24 percent variable APR) and the Wells Fargo Reflect® card (0 percent APR for 21 months on balance transfers and purchases for the first 120 days, then 17.74 percent, 24.24 percent, or 29.49 percent variable APR), but there are plenty of others in this niche.
Carrying a balance during the card’s 0 percent APR period will allow you to earn rewards and pay off your debt interest-free, but be sure to pay off your debt before the introductory period ends. If you carry debt beyond the card’s introductory period, interest will start accruing on your balance at the card’s variable APR.
4. Keep your credit utilization ratio below 30%
Another factor to keep in mind when building credit is your credit utilization ratio: After all, your credit utilization ratio (i.e., how much you borrow against your credit limit) is the second most important component of your FICO credit score.
To avoid your credit score being hurt by your utilization ratio, most experts recommend keeping your utilization ratio below 10% of your available credit, or at most 30%.
This means keeping your balance below $1,000 (maximum $3,000) for every $10,000 of available credit, or keeping your balance below $500 (maximum $1,500) for every $5,000 of available credit.
According to Experian, one of the three major credit reporting agencies, “if you’re focused on maintaining a good credit score, a credit utilization ratio in the single digits is optimal.”
5. Know when to upgrade
When you start looking for your first credit card, you’ll probably choose a secured credit card, a student credit card, or a standard credit card. These types of credit cards are easier to qualify for and are available to people with low credit scores or no credit history.
Either way, you should keep track of your credit score and know when it’s time to upgrade. Generally, you’ll be able to get a better credit card if your credit score falls into the “good credit” range, which is considered a FICO score of 670 or higher. If your credit score is 720 or higher, you’ll have a good chance of getting approved for one of the best rewards credit cards on the market.
Some issuers will upgrade your card as your credit score improves, allowing you to trade in your starter card for one with better perks and rewards while keeping the same account number. Call your issuer to inquire about this option.
6. Define your compensation strategy
You need to have a plan in place to earn credit card rewards without jeopardizing your financial situation. For example, use your credit card for as many purchases as possible to earn rewards, but only if you have the cash in the bank to pay your credit card bill in full each month.
In addition to creating a points plan that will help you stay out of debt, you also need to have a card that offers the type of points you want to earn, whether that’s a cash-back credit card that earns you points you can spend on statement credits or gift cards or a card that lets you earn travel points.
And remember, you don’t have to settle for a credit card that doesn’t offer rewards: Many credit cards for people with moderate credit, like the Capital One QuicksilverOne Cash Rewards Credit Card and the Upgrade Cash Rewards Visa®, offer basic cash back on spending.
7. Reconsider canceling your cards
Finally, always think twice before canceling a credit card. Let’s say you apply for a starter card, use it responsibly for a year or two, build up your credit, and then apply for a more premium credit card. Your starter card may start to gather dust and you may start to wonder if canceling the card was a good idea.
Our advice to new credit card adopters? Keep your cards. Canceling a credit card can negatively impact your credit score by shortening the length of your credit history and increasing your credit utilization ratio. Additionally, if your starter card has an annual fee, you can ask the issuer to downgrade the card to a no-annual-fee option, which won’t affect your credit score.
Conclusion
Just having a credit card won’t improve your credit. Knowing how to use it — whether you pay your bills on time, how much debt you end up with, etc. — will either help or hurt your credit.
To get the most out of your new card, we recommend using it judiciously and only for purchases you can pay for with cash. Earn points and pay your bills on time while managing your credit utilization ratio, and over time your credit score should increase.
