Practically every budgeting or financial advice article trots out the old adage: “use your credit responsibly.” However, the current credit crisis, rising bankruptcies and foreclosures show that many Americans don’t get the message, in spite of hearing it again and again. Why can’t people seem to get it? At least part of the reason is that many Americans don’t understand what financial analysts mean when they say “use credit responsibly.”
Don’t just ignore your credit cards.
If you’ve ever had uncomfortable credit card debt, it can be tempting to tuck them away and forget about them. Many people who experience debt issues or bankruptcies vow never to use credit again, reasoning that they don’t want to make their credit worse. You’ve probably even heard stories about people freezing their credit cards into blocks of ice so they can’t use them impulsively.
Well, I’ve got news for you, people: pretending like you don’t have credit cards may help you avoid increasing credit card debt and making your credit score worse, but it also won’t help you make it any better.
Improving your credit score isn’t rocket science.
In order for your credit score to improve, you must spend and pay money regularly on your credit cards. Tucking them away and forgetting about them isn’t going to improve your score, and that means you won’t be making yourself eligible for better interest rates, better loan rates and better mortgage rates. Failing to give yourself those opportunities can cost you thousands of dollars in high interest rates, so you owe it to yourself to work to actively improve your credit score.
The best way to improve your credit score, and the ‘secret’ that all the financial advisors refer to when they say “use credit responsibly” is to never spend more than you can afford to pay off. This probably seems like common sense, but it’s a difficult lesson for many Americans. It’s not bad to carry a balance on credit cards – in fact, it’s beneficial to let your cards carry a balance anywhere from 20-30% of your total credit and continually pay it down. That’s how you build credit and improve your credit score.
The must-know secret to curb your impulse spending.
When I say don’t spend more than you can afford to pay off, I mean it – literally. Before you make a credit card purchase, set cash aside from your checking account into a special ‘credit card’ savings account. If you want to buy a $200 pair of shoes, put it on your credit card – but only after you’ve put the money aside into a special account. Putting the cash aside first helps you to decide how much you really want something that you'd purchase with credit, and it gives you a chance to evaluate your purchases instead of spending impulsively.
Using this method, you’ve always got the cash to cover your credit card bills, even if you have an unexpected injury or layoff that prevents you from earning money. Most people have enough money to pay credit card payments until something unexpected happens, so having money set aside into a savings account to pay your credit cards can help you stay afloat, even if you run into financial difficulties.
Yes, carrying a balance on your credit cards will cost you money in interest rates, but if you carry a low balance, the money you save by having a good rate on large purchases will far outweigh the money you spend on interest rates; especially if you request periodic interest rate reviews from your credit card company, or switch to lower-interest cards as your credit score improves.
-Money Maven
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