The Frugal Creditnista

Should I pay my credit card balance in full or leave a balance?

Your credit card bill shows a lot of information. So much that it can be overwhelming. If you’re focusing on the ‘important information’ on your billing statement, you will want to look at 3 areas:

  1. The total balance, 
  2. The minimum payment, 
  3. The due date. 

You may also look at the accumulated interest and the amount you’d pay if you only made minimum payments (News Flash: It’s High!)

One of our Prosperity Partner asks, “If I am looking to boost my scores, should I pay my credit card bill off in full or leave a small balance? How will either affect my scores?”

If you've been a Prosperity Partner for a while, in the past, a common piece of advice was to leave a small balance on our credit cards. At the time, we believed that this was a good way to get additional points on the FICO Scoring Model. Since then things have changed.

Why This Was Advised Previously:

Before the new FICO scoring model, there was a common belief among credit and real estate professionals that leaving a small balance over to the next billing cycle could help you to gain a few extra points. FICO denied this theory, but I tested it with hundreds of students and clients, all of whom were new to building credit. Each of them earned a few more points by leaving a small balance over to the next billing cycle. 

Credit professionals proposed doing this was necessary to building payment history, something that consumers new to credit didn’t have.  Thus, we advised our clients to do this too. 

We also noticed that the card issuers of those who left a small balance would give a higher credit card limit increase – usually within 5 to 6 months of having the card – than those who paid off their cards in full every month. This was a bonus because higher limits and lower balances create higher credit scores thanks to having a lower debt-to-credit utilization rate.  

The negative effect of advising this: If you carry a balance, you’re paying the credit card company interest. And that interest accrues DAILY. This goes against our goal of finding ways to EARN interest on our money versus paying it.

Another more important negative effect:  Most of my students and clients are new to credit. I am supposed to teach them good financial habits, not just how to add a few extra points to their credit score. Sure, adding a few points to the credit score may be nice, but carrying a balance teaches poor bill paying habits. In other words, I was teaching them that it was okay not to pay their bills in full. Before you know it, that small balance could quickly grow and eventually become full-blown credit card debt that was impossible to pay in full. Over 90% of my clients are minority women, so I immediately stopped this advice and chose better measures. 

What I Advise Now:

FICO 8 is the most popular form of FICO and most lenders and banks use it now. Do you know what this version rewards heavily? LOW UTILIZATION. This, coupled with the fact that we now have credit reports showing Trended Data, is why I advise something completely different to my students and clients now. 

Trended Data shows your payment history over the last 24 months. It includes the balance, credit limit, high credit, minimum payment, and the amount you paid. 

Why is Trended Data Important? It’s what credit reporting has been about all along. It’s a way for banks, lenders, and other companies to see how you handle your finances. If you pay your bills on time all the time, you’re a good risk. If you have periods of high credit balances, only making minimum payments, or making payments late, lenders could infer that you’re a high risk. 

This plays a role in whether lenders do business with you or not. It also determines what interest rate and terms they offer. With the newer FICO scoring models, it is important that you pay your credit card balances off in full each month. If you can’t, at least make the minimum payment (more if you can). 

It’s no longer necessary to carry a balance; if you can pay it in full, please do.

In Summary:

  1. Pay your credit card in full. Don’t charge something you aren’t sure if you can pay it off. Treat your credit card just like cash. Would you buy something that you didn’t have enough cash to pay for? 

No. So the same is true of your credit card. If you aren’t sure if you can pay it off, don’t charge it (unless it’s an extreme emergency and you have no choice; in that case, develop a plan to pay it off asap).

  1. Always pay on time. No matter if you’re making the minimum payment or paying the credit card off in full, make your payment on time, by the due date. Your payment history is 35% of your credit score. Even one 30-day late payment can cause devastating damage to your credit score.
  1. Pay around your statement date, not your due date. We’re all trained to wait until our due date to pay bills. Why give them money early, right? In this case, there is a reason – interest. The longer your bill remains outstanding, the more interest that accrues since it accrues DAILY. As soon as you receive your bill, pay it in full (or pay as much as you can). Another benefit of paying around your statement date is you reduce the risk of a high credit utilization rate. If your credit card company reports balances to the credit bureau before your due date and you have a high balance, it could hurt your credit score. Your credit utilization rate makes up 30% of your credit score.

Don’t leave a balance over to the next billing cycle. It doesn’t help your credit score and could actually hurt it because of the TRENDED DATA that the new FICO model uses.

Besides the FICO model, creditors look at the last 24 months of your credit history. If you constantly have a balance, they’ll question your financial solvency. They may consider you ‘high risk’ and not do business with you. If they do, they may charge higher interest rates or have worse terms.

Use your credit carefully – only charging what you can pay off in full or in a short time. Carrying a balance long-term will only create bad financial habits and hurt your credit score, neither of which you or I want for you. 

Hope this helps!

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