Credit Cards – Finding a credit card and understanding your credit score

A big part of turning eighteen for me was the ability to have a credit card. I knew that I might have to take out private loans for college as well as possibly buy a house after college and so I wanted to start building my credit as soon as possible. When I applied for my first credit card, I wasn’t fully aware of all of the minutiae, but I learned along the way and have a few tips to share. If you aren’t fully aware of how a credit card works, I recommend reading this post first.

Credit Card Facts Infographic

Why have a credit card?

There are two big reasons to have a credit card: to build credit and to earn rewards. Paying off credit card statements on time and following the other guidelines for maintaining a good credit score (see below) translates to a higher credit score and easier access to cheaper loan options. Rewards such as cash back or miles can offset purchases – they build up over time.

Choosing the right card

There are many considerations that should go into selecting a credit card. First should be fees and the payment window. Credit card companies are required to breakdown fees, so look through all of the information in advance. Avoid cards with annual fees and make sure that purchases do not incur interest on purchases if paid within a certain window of time. Students, frequent travelers, and people with bad credit might want to choose special cards that better suit their needs. Secured credit cards require deposits that match the credit line of the card and are a great option for people with bad credit. Student cards are available from many mainstream card issuers and may feature fewer fees or special rewards offers. For frequent travelers, there are many options for cards that earn miles or extra cash back on travel-related expenses.

Consider your spending habits when looking for rewards: I have seen cards offer up to 5% cash back on certain categories or special sign up bonuses for spending a certain amount. If you are going for cash back, make sure the top earning categories are ones you use often, and if you are going for a sign up bonus, make sure you will meet the deadline for the spending quota. I personally like the Discover It card because it’s easy to use, has great cashback, and doesn’t have an annual fee. I use the students’ version.

Good habits for financial health

Credit cards are important contributors to your credit score. It’s a misnomer that simply paying your card on time will yield a high credit score; there are many factors which make up a credit score. The two primary factors are timely payments and credit utilization. Credit utilization is the fraction of your credit line (aka credit limit) which is being used. For example, if a credit card with a $5,000 credit line has a balance of $2,000, then it is at 40% utilization. As a rule of thumb, anything above 30% utilization will lower your credit score. To insure on-time payments, many credit card companies offer an automatic payment system. I would recommend setting it up to pay the statement in full so it is less of a hassle.

Other factors for credit score include how long your credit products have been open (older accounts are better), the number and type of credit products (a diverse mix of credit cards and loans is best, with as little outstanding debt as possible), derogatory marks (from late payments, bankruptcies, etc.), and credit inquiries. Credit inquiries (or checking your credit score) may affect your credit score negatively. There are two types of credit inquiries: hard and soft. Hard inquiries, which may adversely affect your credit score, are made whenever a lending institution checks your credit score in order to determine whether or not to offer you credit. This includes (but is not limited to) getting new credit cards, increases to current credit lines, and approval for new loans. Soft inquiries, which do not adversely affect your credit score, tend to be for consumers and are normally recurring. Before checking your credit score, make sure that the institution is using a soft inquiry rather than a hard one.

Interpreting my credit score

Credit Scores Infographic

In the US, credit scores range from 300 to 850. There are three credit reporting agencies (Experian, TransUnion, and Equifax) which keep track of your credit-related activities across lenders. Data from one of these agencies is then converted into a score using an algorithm. The two most-used algorithms in the US are FICO Score 8 and VantageScore 3.0. Generally any score above 700 is considered a good score, but scores closer to 850 tend to be eligible for more lucrative offers – I have seen 760 as a common cut-off for lower interest rates.

As you can see, credit cards have many important factors to consider before applying, and it is best to put some time into exploring options before applying for a card.

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