I like to tell anyone who will listen the tremendous value they can get by maximizing credit cards and using them responsibly. There are so many good credit cards on the market, and those who use debit cards or pay cash are basically throwing money out the window (assuming they would be able to use the credit cards responsibly and not rely on credit card financing, other than a 0% APR introductory offer).
When talking to a skeptic about credit cards, there’s one misconception I hear more than any other: “but I heard applying for credit cards is bad for your credit score.”
Is there any truth in that? Right now I have close to 30 credit cards and my credit rating is excellent. Let’s see how it is possible.
How credit scores are calculated
Your credit score is made up of the following:
- 35% of your score is your payment history (the percentage of payments you made on time)
- 30% of your score is your credit usage (the amount of credit you use compared to your total limits)
- 15% of your score is your credit age (the average age of your open accounts)
- 10% of your score corresponds to the types of credit you use (how many different types of credit applications you have)
- 10% of your score corresponds to your requests for new credit (how many times you have requested credit)
Your conclusion here should be that if you make your payments on time, don’t overuse your credit, and keep your average account age fairly old, that’s 80% of your credit score.
How Credit Scores Go Down When Applying for a Credit Card
When you apply for a new credit card, your credit profile is usually tough. Although the exact impact will vary from person to person, each request will generally result in a score of around two to three points. This will lower your credit score within 24 months. Credit scores max out at 850, so a drop of a few points is usually pretty insignificant. Sometimes the drop can be more significant, although it usually recovers fairly quickly.
But that’s the one constant downside of asking for cards.
The other potential downside (although not necessarily a downside) is that the average age of your accounts is part of your credit score. Let’s say you previously only had one credit card for 10 years and suddenly apply for a new card. The average age of your account will drop from 10 years to five years. The way to prevent this from being a problem is to keep a few credit cards open for a long time.
Ideally, also keep the first credit cards you opened forever, even if you downgrade the card to a no-annual-fee product, as it will be beneficial to be able to retain that credit history.
How Credit Scores Increase When Applying for Credit Cards
The above covers the limited drawbacks of applying for credit cards. An investigation could temporarily reduce your score. But you can see huge positive improvements to your credit score when you open new credit cards.
The most basic reason for this is that you will have a lot more available credit, and the percentage of credit you use and your ability to make those payments on time is 65% of your score.
For example, let’s say you currently have a credit card with a credit limit of $5,000 and you spend $5,000 on it per month. You use 100% of your credit.
To give an extreme example, let’s say you then have 10 credit cards with a line of credit of $5,000 each and you’re still spending $5,000 a month. You now have $50,000 of available credit, but you are only using 10% of your credit.
This will have an extremely positive impact on your credit score. Why? Because it raises a red flag when you are using almost all of your credit.
If you use all the credit you have, issuers wonder what will happen if they give you more credit. Meanwhile, if you have a lot of credit that you use responsibly, card issuers consider this a low risk because they can see how responsible you are.
A concrete example of a credit score
I have nearly 30 credit cards, so let’s take a look at my actual credit score and details. On a scale of 300 to 850, my credit score is 823 with TransUnion and Equifax. It’s excellent.
My score recently dropped by eight points. It was 831 in February, and the slight drop reflects the fact that I’ve had some serious credit inquiries in recent weeks. As you can see, the impact was not too great.
Below is a more detailed description of what comprises my score.
In high impact areas I am very successful – I have very low credit usage (1% – this is the amount of available credit I have), I make 100% of my payments on time and I have no derogatory note. They’re the most important parts of your credit report, and my credit usage wouldn’t be so low if I didn’t have so many cards.
Moreover, the average age of my accounts is even quite good thanks to the cards I have opened for the long term, which always helps me to maintain this number. Even though the six inquiries on my file aren’t ideal, my credit rating is still great, which shows how you can apply for cards and still have great credit.
To be clear, my situation is not an isolated incident. I get emails all the time from people with scores below 700 who are confused because they point out that they only have one credit card and they use it responsibly.
They worry that their score will go down if they ask for more cards, but in almost all cases their scores go up in the long run when they get more cards and use them responsibly.
Why You Might Want A Lot Of Credit Cards
The logical follow-up question is “okay, you can have a lot of credit cards, but why would you want to?”
Well, my goal first and foremost is for those of you who use debit cards exclusively to switch to credit cards instead, assuming you can use your credit responsibly (it’s almost never worth carrying a balance on a credit card).
Far too many people only have debit cards, so it’s time to start building your credit and realize that applying for credit cards can potentially help your score, rather than hurt it. Get a card like the Chase Sapphire Preferred® Card (review) or Chase Sapphire Reserve® Card (review), which offer easy-to-use points and great spending bonuses.
If you don’t want to earn points, get something like the Citi® Double Cash Card (review), which has no annual fee and offers 1% cashback when you make a purchase, and 1% cashback when you pay for this purchase (in the form of ThankYou points). These rewards can even be combined with ThankYou points earned on other cards, such as the Citi Premier® Card (review), to get even more value.
But why would you want to have multiple credit cards?
At the end of the line
There are many misconceptions about credit cards, although the most common probably involves the belief that applying for a credit card will hurt your credit score. It just isn’t, at least if you use them correctly and take a long-term approach to credit cards.
In the short term, you’ll lose a few points if you apply for a credit card, although the long-term benefits far outweigh this, including your reduced credit usage and positive payment history.
To maintain a good credit score, I highly recommend:
- Keep your oldest cards open, even if you don’t use them much, and even if you downgrade them to a no-annual-fee product
- Always pay your credit card bill on time (ideally early)
- Keeping your credit usage low, and you can do this by paying your bill before your credit card statement even closes, since the balance on the closing date is how usage is calculated
There’s similar confusion about the impact of closing credit cards on your credit score, so check out this article for more details on how it works.
Hopefully this inspires at least a few of you with limited debit cards or credit cards to start maximizing your points!