Understanding Your Credit Score: And How It Can Be Worth Millions (of Miles)

One of the most-asked questions about credit cards is how does it affect your credit score, and of course the implied followup, do you care? And it’s been awhile since I wrote a post on understanding your credit score.

I’ve signed up for scores of cards over many years and I still have an excellent credit score, it was nearly 800 FICO on the three major credit bureaus when I went to get my mortgage. In part because of signing up for more cards, rather than in spite of it.

I first discovered rewards credit cards in 1997. I signed up for a US Airways card, enticed by the bonus. I decided I didn’t want to pay an annual fee for a credit card back then. My income – and thus my spending – wasn’t very high. So I cancelled the card right away. They still let me keep the bonus, though, which I thought was really nice of them.

When I finally did the math and realized it made sense to earn rewards even with an annual fee I applied for that same card again, and they gave me the bonus again. I thought that was really nice of them. And I learned that if a bank liked me once they were quite likely to keep liking me.

The Key to a Understanding Your Credit Score and Improving It — and When it Matters Most

I didn’t know much about credit scores back then, I just knew that I was earning lots of miles for things other than flying. I paid my bills on time, and I wasn’t in search of tons of credit. And that meant I pretty much always got approved, and having requests for credit never hurt me.

The first two lessons.

  • The most important thing for a good credit score is paying your bills on time.
  • You care most about your credit score when seeking significant credit for things like a residential mortgage.

Avoid Credit Cards If You They Cause You to Spend More Money Than You Otherwise Would

For the most part the availability of credit cards hasn’t increased consumer spending — it’s shifted how that spending is financed. We don’t use layaway or store credit very much, for instance. And high interest (even higher than credit cards!) personal loans are far less common than they used to be.

But there are certainly folks who will spend more because they can. Or because it’s somehow deemed worth it to meet a card’s spending requirement. I want you to understand if you’re one of those people.

If you don’t pay your bills in full and on time, or if you’ll spend more just because you have a credit card, then you should stay away from rewards credit cards.

The key is to be honest and reflective with yourself. You need to be meta-rational. The most important question isn’t whether your credit score is high enough to get credit, but how you’ll behave once you get it.

As I wrote in “This Game is Not For You If..” the most important consideration when playing the miles and points game with financial products is:

  • Do you pay off your bills in full each month?
  • You must not spend more than you otherwise would because you’re using a credit card or justify extra spending “because you need it to get a signup bonus”

If you don’t or can’t pay your credit cards in full, then interest rates are far more important than the points or rebates you’ll earn. If you spend more when you get more credit you’ll be giving up more than you get.

So if your score goes up, you find yourself better-positioned to sign up for credit cards, focus on these two issues when deciding whether you should get cards even if you can.

Avoid Card Signups – And Other Requests for Credit – in Advance of Major Purchases

My general view is that if you satisfy these conditions, you still want to avoid cards if you plan to be in the mortgage market over the coming 1-2 years. In any case, a score of 760 or higher will generally qualify you for the best lending rates. Scores over 760 don’t make you meaningfully better off.

Requesting Credit Reduces Your Score.. Usually a Little Bit, and Just Temporarily

Getting a new card, or generally requesting credit (causing a ‘hard pull’ on your credit) will reduce your credit temporarily by a few points. If you are asking for credit you might need it.

Getting Approved for Credit Can Improve Your Score

Having more available credit can improve your credit. It pushes down your utilization ratio — the amount of total available credit you’re using in a given month.

If you spend $3000 on cards (even if you pay off the cards in full) in a month and have $5000 in credit, you’re using 60% of your available credit. If you spend the same amount but have $30,000 in available credit your utilization rate is just 10%. You have credit, don’t use it, and show how responsible you are with credit. That’s far more significant than how many cards you request.

I Try to Keep My Credit, Even When I Cancel Cards

When I cancel cards, I often try to retain the credit. Chase generally lets you move your available credit from one card (the one you’re going to get rid of before a fee hits) onto another card (that you’re keeping). American Express has frequently offered the ability to move around your credit between cards as well.

Cancelling a Card Can Reduce Your Score.. in 7 Years

I keep my oldest cards, and no fee cards generally, but even when you cancel a card it stays on your report until it ages off after 7 years — so cancelled cards can increase the average age of your accounts, one factor in your credit score. The more responsible with credit you are over long periods of time improves your score.

We Can Easily Become Too Obsessed With Scores and Inquiries

I admit I don’t even bother checking my credit anymore before I sign up for cards. I’m not doing 10 at a time. I’m not balancing my inquiries across the credit bureaus, there aren’t enough offers that I either haven’t had or can get again in the near term that I have that luxury. So I’m just balancing my card applications across banks. I’ll try to apply for one card from each of the co-branded issuing banks at a time, subject to decent offers being available

If you’re truly at a margin where an inquiry will trade off with another one you might make, if you’re signing up for literally scores of cards each year, then you may want to be more vigilant than I am.

The real hardcore folks will manage the inquiries on each credit bureau, there are forums over at Credit Boards where people list which bank runs credit through which bureau in each state. So if you have too many inquiries on one bureau you can apply only to banks that will pull your credit from another one.

I don’t really get rejected from cards, my credit is good, and I don’t have a major purchase like a house (or a refinance) on the horizon. So I don’t even monitor my credit score closely, I just do irregular housekeeping to make sure nothing is on my credit report that shouldn’t be by mistake.

The Most Important Thing to Worry About Is…

Pay your bills on time and don’t max out your credit and your credit scorewill generally reflect that, and you’ll be deemed a good enough credit risk to be able to get more credit.

Because what financial institutions are most concerned with is whether they’ll get their money back.

Resources:

  • You can get free copies of your credit report at annualcreditreport.com
  • You can get free true FICO scores with several Barclaycard credit cards. Other cards, like DiscoverIT, provide it as well and several other issuers are moving to begin providing scores too.
  • Credit Sesame and Credit Karma are two services that provide (FAKO, not the real FICO) credit scores and also free credit monitoring. Their business model is to provide credit card recommendations to you and earn referral credit, just like Mint.com.


About Gary Leff

Gary Leff is one of the foremost experts in the field of miles, points, and frequent business travel - a topic he has covered since 2002. Co-founder of frequent flyer community InsideFlyer.com, emcee of the Freddie Awards, and named one of the "World's Top Travel Experts" by Conde' Nast Traveler (2010-Present) Gary has been a guest on most major news media, profiled in several top print publications, and published broadly on the topic of consumer loyalty. More About Gary »

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Comments

  1. My score dived about 100 points (from over 800) over the summer. Been a churner for a while, and agree with the above.

    What I think was the issue was the number of cards with balances — given the low spend requirement on Delta and a couple others, plus paying off a few others that I made the spend on the month before, I probably had balances on 8 or more cards – EVEN THOUGH I pay off in full at the due date (and tend to meet the spend requirements serially, rather than using differnt cards concurrently)

    So if you have enough cash flow, pay in advance of the due date, so you don’t have many balances.

  2. I guess American Express and Chase trust me a fair bit (based on 1 cc with amex, 2 with chase) because the only hard pulls I have had in the last two years were when I bought a house, in that time I’ve applied for (and been approved for) 2 amex credit cards and 4 chase cards. On an unrelated note, an amex rep i chatted with thanked me for having a sterling payment record too, which was nice.

  3. Good, basic, useful piece, Gary. The one piece of usually reliable advice you offer that I wonder about, though, is the credit utilization ratio. I sign up for about five or six new cards per year, and my FICO score hovers around 800. But couple of times in the wake of the financial crisis I’ve had questions raised about credit card applications because, according to the customer service rep, I’ve had too much available credit. Apparently the concern is that the user (i.e., me) could conceivably abuse all that available credit and not be able to pay it back. Could be that my situation is exceptional, but just thought I’d mention this.

  4. The credit score is the score of the poor. You get a “mortgage” because you don’t have any money. If you’re rich and financially educated, you don’t give a damn what that score is, where it goes, or even care what it is.

    Look at Ben Bernanke unable to finance his own mortgage (that jerk). Or worse, Marc Zuckerberg, a bigger jerk, who created a haven for terrorists with appended ads known as Facebook, with a 30 year mortgage on his crappy Menlo Park $2.00 house, but “donates” $25 Million to combat Obama-bola; Obola-bama; i.e., a tax avoidance scheme since the CDC gets enough printed cash by a stroke of an Obama’pen.

    Trying to manipulate a score without a steering wheel to get “airline miles” with minimum spends is now the fool’s world for cocaine. In the past it was no spend; now, minimum spends of $3000, $5000, $10,000 with point devaluations through the roof. Yes, banks have to lend money — but what they are doing is enslaving the poor at an offsetting zero interest rate.

    If you’re rich, you agree. If you are in mortgages higher than you’re balances, or based on a future income, trying to manipulate credit scores with the math you know nothing about, you are enslaved.

    Now, have a safe trip! Maybe we should free Kevin Trudeau too. LOL

  5. @Steve outstanding credit is one issue separate from credit score, if it is with the same bank it’s easy to trade credit often with other banks you can always scale back if you need to..

  6. Just a quick correction “generally, but even when you cancel a card it stays on your report until it ages off after 7 years”. Its actually 10 years. Negative accounts age off after 7 years. Positive accounts 10 years from date of closure.

  7. But those cancelled accounts DON’T contribute to your mean account age, do they? I thought it was the avg of only your OPEN accounts…

  8. FICO scoring does not take into account average age of OPEN accounts. They use average age of ALL accounts — open and closed.

  9. Excellent post. Unfortunately, many of my friends stubbornly cling to the erroneous belief that having too many credit cards will ruin their FICO score, so they miss out on fabulous offers and then wonder how the heck I can afford so many vacations. Too bad they don’t read your blog. Alas, you may be preaching to the converted.

  10. “Cancelling a Card Can Reduce Your Score.. in 7 Years”

    This is only true for the current generation of FICO scores and not VantageScore or a lot of the other FAKO scores (admittedly they are only used in ~10% of lending decisions).

    Also I believe that when FICO 9 is introduced closed accounts will not continue to age until they fall off your report. From a risk analysis perspective it does not make any sense to let closed accounts continue to age.

    Also cue the Dave Ramsey cult followers coming in. “All debit is evil” “Your a slave to your debt, sheeple!”

  11. @ED :
    I’m considered wealthy and care about my credit score. Everyone except Floyd Mayweather wants to save money.

    Airline miles acquisition and cocaine are in no way the same except that both my drug dealer and the bank deliver their rewards to the house, but I’d never have the cocaine put in the mailbox (bad form and besides the mailman would snort it all).
    My drug dealers don’t have a minimum spend and don’t give rewards except addiction , which, while possibly being arguably more addictive than credit as well as impoverishing the masses, isn’t the same.
    Now…if you want to argue CRACK versus airline miles, you’d have a better argument.

  12. Canceling a card to avoid the fee with the intent to pocket the signup bonus for free is beyond my personal threshold for honest dealing. If I were running a bank I would blacklist any customer who did that more than once.

  13. @nsx If the bank really cared about that, they would not offer annual fee credit as a retention package. I have been honest when calling to cancel cards because I felt that I did not get enough ongoing value to pay for another year, and they frequently offer to waive the fee. Obviously they have decided that the potential for future revenue is worth the upfront cost to them.

    I also wish the crazy talkers would use a different name.

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