America’s credit card debt is approaching its all-time high, so what’s the best way to handle credit cards? The notion that debt has become a way of life for Americans in the 21st century isn’t a novel idea but it’s certainly a trend that’s becoming increasingly ingrained as a societal norm.
Credit card statistics show a steady rise in debt
According to the Federal Reserve in its most recent CMD (Center for Microeconomic Data) report, total household debt increased by 1.8% in the final quarter of 2016, taking it to $12.58 trillion. This rise included a 4.3% increase in credit card balances, which means that the average household with credit card debt has balances now totalling $16,748. It’s a pretty sobering thought. And it’s not simply a question of folks not living within their means and spending to fund lifestyle aspirations. The rise in medical and housing costs are outpacing income growth and making it difficult for many families to meet their basic commitments without using loans and credit cards to keep their heads above water.
Stuck in a revolving door?
In and of itself, credit card debt isn’t necessarily a bad thing. Around a third of credit card users pay off their bill every month, using credit cards to defer their spending and to take advantage of cardholder rewards. These are known as ‘transactors’ or ‘convenience users’. If you count yourself a member of this group, congratulations! You’re using your credit card in the most cost-effective way. The remaining credit card users are seen as ‘revolvers’ because they carry debt over, paying a percentage of their balance each month and often racking up more debt as they go along. The Federal Reserve calculates revolving credit card debt at more than $900 billion, with the average American (aged 18 to 65) having $4,717 of credit card debt. Unless you’re a super-savvy shopper, credit card debt is among the most expensive types of borrowing. According to CreditCards.com, the average credit card’s interest rate is 15%. Using that as a benchmark, if you made the minimum payment of $189 on your $4,717 balance each month, you’d spend more than ten years paying it down and during that time would have made payments of just under $23K – that’s a whopping $18K fee for a loan of less than $5K!
So how can I best manage my card bill?
Getting access to a line of credit isn’t always easy so once you’ve been approved for a credit card, you’ll want to make sure you don’t spoil your credit rating. Your FICO score can be helped or harmed by your credit card history, which is why it’s important to manage your usage carefully.
Make your payments on time: It will harm your credit rating if you frequently miss payments or make them late. Your payment habits show lenders how reliable you are – missed payments raise red flags with credit bureaus and can lead to derogatory marks (see below) on your credit. If your billing cycle means that payment is due on the same date every month, consider automating your funds transfer and remember to pay at least the minimum required when it falls due. Miss a payment and you’ll not only risk damaging your credit score but you’re likely to be charged a fee for the oversight and might also find your rate is increased to a more punitive level.
- Manage your credit usage: Take your total available credit and work out what your utilization is as a percentage of this figure. For instance, if you have a combined credit limit of $4000 and you have a balance of $3000, you’re using 75% of your total balance. To optimize your FICO score, it’s generally considered good practise to keep your credit utilization at 30% or less.
- Check derogatory marks: The world is very connected, especially when it comes to financial matters. If you’ve ever been involved in bankruptcy, foreclosure or tax debts, the details will most likely have been reported to a credit bureau and may lie on file – for up to ten years – as a derogatory mark. If you can prove a mistake has been made, you can get a mark rescinded.
- Don’t close credit accounts if you can help it:: Keeping credit available will help maximize your credit score and more accounts will increase your total available credit, allowing you to manage utilization. Older accounts rank more highly so treat these with care and don’t let them fall out of use. One thing to bear in mind, though - if you are inactive on any credit account, your lender may decide to close the account which will impact your FICO score.
Why should I care about my credit card history?
According to the Consumer Financial Protection Bureau, a ‘prime’ credit score is essentially one that falls within the average range – defined as between 660 and 720. Those with no credit score at all (up to a sixth of the population of the US) will have difficulty if they’re looking to obtain new lines of credit. Credit scoring may seem complicated but mostly it comes down to how much risk a particular individual represents to a lender. It’s important to note that a low score will not only affect your ability to get credit but will also influence how advantageous the terms of borrowing are. The higher your credit score, the lower your quoted APR is likely to be.
Shape your financial DNA
Everyone needs access to credit at some point in their lives, whether it’s to fund a new home, kick-start a business or finance a college education. The sooner you start a sound credit trail, the easier you’ll find it to secure credit when you need it – at the best price. So, take control of your credit card – and credit score – early and you’ll have a better chance of long-term financial success.