Your Credit Score, also referred to as FICO Score, consists of many components including your payment history, current debts, length of your credit history, new credit card applications and more. Credit scores are assigned by credit bureaus like TransUnion CIBIL and Experian based on the information furnished by the lenders. It is a record of your loans accounts and credit cards and helps other lenders in judging your ability to repay the loan you seek. So, let’s have a closer look at how credit cards, in particular, affect your credit score.
Having a Credit Card
A credit card is one of the easiest ways to start building credit. Those who do not have any open credit cards or active loan accounts will not have a credit score. Not having a credit score may come as an obstacle when you wish to take bigger credits like home loan, car loan or even personal loan.
Your Available Credit Limit
Your credit limit is the maximum amount that the bank has made available to you after analysing your financial capacity. At any given point, you cannot spend above this limit and if you do so, you will have to pay hefty charges. It is not a good practice to max out your credit cards as it will increase your credit utilization ratio. A high utilization ratio translates to a bad credit score.
Many credit card issuers also report a “high balance” which is the highest balance ever charged on your credit card. Hence even if you max out your credit card and pay off the amount, your credit report can still show that high balance.
Related Read: Tips for Lowering Your Credit Utilization Ratio
|It is advisable to maintain the credit utilization ratio below 30%. A low credit utilization ratio improves your credit score as it is the second most important factor that bureaus consider after your payment history.|
Your Overdue Balances
The balances you carry on your credit cards make up a major portion of your credit score. For instance, If you keep paying the minimum amount due every month and rolling the balance over to the next month, it is not considered a late payment.
So, your credit score will not be affected in this case. In a different scenario, say you are not able to pay even the minimum amount due on time. Late payment will be reported to the credit bureaus and your credit report will show the number of days after the due date for which your balances lay unpaid in the DPD (Days Past Due) section. This is why you should always pay your credit card balances in full and on time.
Number of Credit Cards
There is no limit on the number of credit cards that you can own. The majority of people in India have only 2-3 credit cards depending upon the different needs. In such a situation, someone having 6-7 credit cards may be considered as a credit hungry borrower. Relying solely on 1 credit card is also not good so you should have a basic card and another one that fulfils your specific requirements.
Read More: How Many Credit Cards Should You Have?
Closing Your Credit Card Account
When you close your credit card account, your scores may take a big hit. This is because credit history makes up for a better part of your score. So, if you close an account that has been there since the beginning, you are erasing years off of your credit life. Secondly, your credit utilization ratio will also drop as you no longer have access to the credit limit of the card you just closed.
When you move your debt from one credit card to another, generally to make the most of a lower Annual Percentage Rate (APR). In case if you are transferring a balance to an existing card with a lower APR, you will definitely be saving interest but you will likely be hurting your credit utilization ratio and credit score.
Credit Cards and Credit Score: Myths vs. Facts
Relationship Between Credit Card and Credit Score: Myths Vs Facts
Depending upon how you use your credit card, you can increase your credit score efficiently or suffer a significant drop. Here are some of the myths and facts associated with the relationship between your credit card and credit score.
|Credit cards cause debt spiral and lead to a low score||Those who manage to pay back the entire outstanding amount each month are safe from debt while those who keep balances overdue get stuck under a pile of debt and the credit score goes downhill|
|You should have only one credit card||There is no rule as to the number of credit cards one should have. You should be able to manage the bills on each of the cards you have. Unless you miss a payment, your credit score will not be affected|
|Credit limit increase is a scam||If the lenders find you to be a responsible borrower, they can offer you a higher credit limit. A higher limit will reduce your credit utilization ratio which works out really well for your credit score|
Your credit score is directly related to your credit cards and other loans you have. If you are already serving a loan but do not have a credit card, getting one will be good for uplifting your credit score. Also, with credit cards, you can make big purchases and pay for them in easy EMIs. To build and maintain a good credit score, you should serve your loan EMIs regularly. Pay the total amount due on your credit card every month. Stay below a utilization limit of 30% and practice good credit habits.