A CREDIT REALITY CHECK: SIGNS YOU’RE CARRYING TOO MUCH DEBT AND CREDIT MYTHS
Reality check: We’re a few short months from the holidays.
Before we entertain thoughts of traveling through the woods to grandmother’s house and “sleighs” of gifts for loved ones, it’s a wise idea to take stock of your credit to assess if you need to rein in spending.
Taking stock of your credit card balances this time of year can save you headaches, anxiety and worry down the road.
The first—and most obvious—sign that you’re likely carrying too much credit debt is this simple observation: Your total balances among your cards are going up every month instead of down.
Other key indicators to watch for:
A high debt-to-income ratio (DTI). This ratio compares your total monthly debt payments (including rent/mortgage, auto loans, student loans and credit card payments) to your gross monthly income (before taxes). Lenders typically look for a DTI under 36% when considering loan applications.
A high credit utilization ratio. This is exactly what it sounds like: It’s a measure of how much credit you’re using versus how much you have available. For example: You have two credit cards with a total credit limit of $6,000. Your outstanding balances on those cards add up to $3,000, so your credit utilization ratio is 50% ($3,000 ÷ $6,000).
Making only the minimum monthly payment. Minimum payments often only cover interest, leading to balances that don't decrease significantly, or even grow over time.
Being reliant on credit cards for essentials: Using credit cards to pay for basic living expenses like groceries or utilities indicates that your income may not be sufficient to cover your needs.
Having minimal savings: If you have little or no savings because a large portion of your income goes towards debt, you lack a financial cushion for emergencies.
Check Yourself! By using credit cards responsibly.
Top tips to keep your credit debt under control:
Know your card’s terms, like its billing cycle, fees and interest rates. They’re the most important to pay attention to. Find them—and read them—on the back of your physical monthly credit card bill (or statement) or check on your credit card’s website.
TIP: Find your credit card’s key terms and conditions in the Schumer box, a standardized table that’s included in all credit card agreements, statements and card offers.Make payments on time—and more than the minimum monthly amount. Late payments rub your credit the wrong way. It can lead to fees and higher interest rates and can stay on your credit report for up to seven years.
Avoid maxing out your credit card. A maxed-out credit card and the resulting lower credit score can make it harder to qualify for new loans, credit cards or even mortgages with favorable interest rates.
Consolidate multiple credit card payments. Juggling multiple debts with various due dates and interest rates can be overwhelming. Consolidating them into a single loan or credit account with one monthly payment and due date, simplifies finances and helps reduce the risk of missed payments and late fees.
Don’t close old accounts (unless necessary): Closing older credit cards can reduce your overall available credit, potentially increasing your utilization ratio.
Check out further reading about “healthy” credit in our Alia blog, in The Good, The Bad, The Ugly: The Types of Debt and the Key to Managing Them.
Finally, let’s delve into these long-standing myths about credit cards and credit scores.
Speaking of credit scores, the two main credit scoring models are FICO and VantageScore. The average FICO score in the U.S. is 717. VantageScore is 702.
Did you know? FICO stands for Fair Isaac Corporation and was founded in 1956 by engineer William R. “Bill” Fair and mathematician Earl Judson Isaac. The company, based in Bozeman, Montana, is not a credit bureau but rather an analytics company that provides these scoring models to lenders.
And here are most common credit myths:
Checking your credit score hurts it: It’s actually a good thing to monitor your credit regularly for errors and progress. It doesn’t affect your credit score because it’s considered a “soft inquiry.”
Closing unused credit cards helps your credit score: Closing a credit card, especially an older one, can negatively impact your credit by reducing your total available credit and shortening your credit history.
Carrying a balance on your credit card helps your credit: You don't need to carry a balance to build good credit. Paying your balance in full each month is the best way to avoid interest charges and improve your credit utilization ratio.
Your income or savings affect your credit score: Your credit score is based on your credit activity, not your income or how much you have saved.
You only have one credit score: You have multiple credit scores; each credit bureau and scoring model uses slightly different information and formulas.
Paying off a loan erases any negative information associated with it: Not so fast—or easy. Paid-off accounts, including those with missed payments, remain on your credit report for several years. Late payments can stay on your report for up to seven years.
You need a credit card to build credit: While credit cards are a common tool, you can build credit through other means like becoming an authorized user on someone else's account or taking out a credit-builder loan
WE’RE HERE TO HELP
Talking about debt, including credit cards, as part of larger financial planning should never be stressful or shameful. There’s always a way forward, and we can make that possibility a reality. Let’s connect today.
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