Few things in this world are more confusing than credit cards — how they work, what they really cost and how to manage them responsibly. And while it's just my opinion, I think issuing banks are just fine with that. They love customers who collect stacks of credit cards, don't read the find print, run up big debt and pay only the minimum required each month. Once those customers pass the threshold after which they can no longer pay the balances in full every month, a lifetime of debt is sure to follow.
What's the solution? Stop being ignorant. Learn all you can. Ask questions to grow your financial intelligence. That's the way to beat them at their own game.
Dear Mary: I am on the fast track to paying off my credit card debt in full and forever. I'm like a racehorse heading into the final lap. Here's my question: Does it matter when I make my monthly credit card payments? Would it make any difference if I paid earlier in the billing cycle rather than just before the due date? — Kevin
Dear Kevin: Wow, this is great news, and I'm cheering you on! The answer to your question is yes, it does matter. Here's why: Because you are carrying a revolving balance (as opposed to paying the balance in full each month during the grace period), interest is calculated on your average daily balance. At the end of every day, your credit card issuer looks at your outstanding balance, multiplies that number by your annual percentage rate (APR) and then divides that by 365 (some use 360, but the difference is minuscule). That amount is the interest, and it's added to your balance. This happens every day. The sooner you make your payment, the sooner your average daily balance drops and the less interest you'll be charged the following day. More of your payment will go toward reducing the principal balance.
Dear Mary: Thank you for all the research and advice you put out every day! I have just qualified for a $10,000 credit limit on a Capital One credit card. I didn't expect to be granted that much. Will it reflect poorly on my FICO score if I request a reduction to $5,000? — Deena
Dear Deena: Credit scoring doesn't consider credit limits, per se. It looks at your utilization rate — the amount of your available credit you are using at any given time. Utilization rate is another word for debt. Remember this: The higher your utilization rate, the lower your FICO or other score.
It all depends on how you manage this credit limit, be it $5,000 or $10,000. If your plan is to charge a $5,000 item (please tell me you're not planning to do that) with a $5,000 credit limit, that means you'll have a 100 percent utilization rate. That will kill your FICO score, in which case the $10,000 limit with 50 percent utilization would be the better choice (although dangerous).
Once you understand utilization rates, you'll be able to make a reasoned decision. Just keep in mind that the bank wants to push you into the $10,000 limit and then watch you max it out so you're in debt up to your eyeballs forever.
FICO's Rule of Thumb: Keep your utilization rates below 30 percent — both individual accounts and your overall credit card use — at all times.
Mary's Rule of Thumb: Do not carry credit card debt. If you can't pay the balance in full every month, get rid of that card (just don't close the account until it's at $0).
One last thing: There is a common belief out there that says a credit score (FICO or another brand) should be called a "debt score" because the more debt you have, the higher your score will be. That is simply not true — it is a prevailing myth that needs to be put out of its misery.
Mary invites questions, comments and tips at mary@everydaycheapskate.com, or c/o Everyday Cheapskate, 12340 Seal Beach Blvd., Suite B-416, Seal Beach, CA 90740. This column will answer questions of general interest, but letters cannot be answered individually. Mary Hunt is the founder of www.DebtProofLiving.com, a personal finance member website and the author of "Debt-Proof Living," released in 2014. To find out more about Mary and read her past columns, please visit the Creators Syndicate webpage at www.creators.com.
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