When used responsibly, credit cards can have a positive impact on your credit score. However, even missing one payment can cause your score to drop quickly.
Understanding the factors affecting your credit scores, such as your credit utilization ratio and length, is critical to managing your credit. Here’s how credit cards affect your credit score.
In this guide:
- How applying for credit cards affects your credit score
- How using your credit card impacts your credit score
- How paying off a credit card affects your credit score
- Is a credit card worth it if it hurts my credit score?
How applying for credit cards affects your credit score
Your credit score is the backbone of your credit card application. It tells lenders whether you’re a reliable borrower. The lower your score, the lower your chances of approval. When you apply for a credit card, you could see one of several outcomes depending on your situation.
Preapproval won’t affect your score
Preapproval offers from credit card companies don’t have an immediate impact on your credit score. Preapproval involves a “soft” credit inquiry, which gives the lender a general idea of your score.
Preapproval means approval is likely if you submit a formal application. It isn’t a guarantee, though. The card issuer could reject your application if, for example, your credit score has dropped since it sent you the preapproval offer.
Initial hard inquiries may drop your score
Once you apply for a credit card, the lender does a “hard” inquiry of your credit report. As a result, your credit score may drop by a few points. This hard inquiry can stay on your credit report for up to two years, although a year is more common.
It all depends on how many other inquiries you’ve had from other lenders. Several inquiries in a short time can be a red flag to lenders that you’re trying to open new lines of credit without getting ahead of your debt.
Improves your credit mix
Getting approved for a credit card can boost your credit score in the long run by improving your overall credit mix. Having a credit card (a “revolving” debt) among other loans (such as an auto loan or student loan) will help raise your score because it shows you can manage various types of credit.
How using your credit card impacts your credit score
Using your credit card and racking up a balance will have the biggest effect on your score. At the same time, controlled, regular card use will help you in the long run.
Maintaining a balance raises your credit utilization ratio
Your credit utilization ratio measures how much you owe compared to your total available credit. The lower your ratio, the better your credit score. So when you maintain a balance on your credit card, as this ratio increases, it can lower your credit score.
To avoid this, paying off your balance in full each month is important. This will help you maintain a low credit utilization ratio and avoid unnecessary interest charges.
Plus, you’ll avoid having so many credit cards that you can easily overspend or miss a payment.
Continued, responsible use helps your score
Using your credit card responsibly is the only way to ensure your credit score won’t take a hit. What does responsible use look like? It involves:
- Making timely payments
- Avoiding late fees
- Keeping your credit utilization ratio low
It’s also important to use your credit card regularly. If you have a card you rarely use, the company could close your account for inactivity. This may drop your score if that card made up the bulk of your credit length or had a high limit.
How paying off a credit card affects your credit score
Paying off your credit card in full can feel like a weight off your shoulders—it also has a positive impact on your credit score.
Helps you build a credit history
Paying off a credit card is one of the best ways to build a positive credit history. It shows you’re responsible with credit and will repay your debts. It can help you build a strong credit history, which is beneficial when applying for loans or other types of credit.
Lowers your credit utilization ratio
When you pay off a credit card, it lowers your credit utilization ratio—the credit you’re using compared to your available credit. A lower utilization ratio is better for your credit score because it shows you don’t habitually max out your credit cards.
Increases your available credit
Paying off a credit card also increases your total available credit. Significant available credit shows lenders you’ll repay your debts.
A large amount of available credit indicates you have access to capital, demonstrating that other lenders were right to trust you with credit lines. Therefore, lenders view you as a less risky borrower and may offer better terms and interest rates.
How closing a credit card impacts your credit score
Some people have credit cards they never use. Others use their credit card too often and don’t pay their debt in full every month.
You might have considered canceling your credit cards if you’re in either group. But this can be unwise for two reasons.
Reduces your available credit
Closing a credit card reduces your overall available credit—a critical factor in your credit score. When you close a credit card, the credit bureaus no longer account for the available credit associated with that card.
This can raise your total credit utilization ratio—the percentage of your total available credit you’re using. And as we’ve established, a higher credit utilization ratio can lead to a lower credit score.
Drops the length of your credit history
Credit scoring is based in part on a borrower’s history with credit. Generally, the longer the relationship with credit is, the better the credit score. So when you close a card, it no longer contributes to that overall calculation.
The result could be a significant reduction in your score.
Is a credit card worth it if it hurts my credit score?
A credit card can be a valuable financial tool, but it can have a negative impact on your credit score when you first open an account—or if used without caution. Using a credit card with a balance can increase your credit utilization and hurt your credit score.
But using your credit card to make small payments, and repaying it in full each month, can help build a positive credit score. Many credit cards also offer rewards for spending on the card. Depending on the rewards program, you may be able to earn points or cash back on purchases.
The decision to use a credit card should be based on your financial situation and goals. If you have a good handle on your budget and are confident you’ll be responsible, a credit card can be an excellent way to build credit and establish a positive payment history.
However, if you aren’t responsible with your spending and worry this could lead to negative repercussions, it may be wise to avoid using a credit card and work on other ways to build credit.