How to pay down credit card debt and improve your credit score
How to pay down credit card debt and improve your credit score
Credit card debt is like mold: The longer you ignore the problem, the more wildly it grows.
If you’re a twentysomething, you may have put tuition or books on your credit card while you were in college.
Or maybe you charged your rent or groceries to your card.
Now you’re swimming in a pool of high-rate debt.
And that debt has likely grown more costly as short-term interest rates have risen.
Which is a pretty good reason to get rid of it as quickly as possible.
The general rule: Don’t buy anything on plastic that you can’t pay off at the end of the month.
That principle applies whether you’re charging gas or a flat-screen TV to your credit card.
Spending discipline isn’t the forte of many young adults, though — particularly during the holiday shopping season.
Consumers ages 20 to 29 carry an average $5,781 in revolving debt — which includes credit card loans — a 24% rise from five years ago, adjusted for inflation, according to an analysis by Experian of the credit records of 3 million twentysomethings for USA TODAY.
Especially when you’re young, the short-term freedom that credit cards provide can be seductive: Spend now, pay later.
But over the long term, piling up too much debt, or failing to pay it off on time, can make it harder for you to buy a car or a house later.
Twentysomethings “are one of the groups that we’re becoming more concerned about,” says Nick Jacobs, a spokesman for the National Foundation for Credit Counseling, which counsels 40,000 twentysomethings each year through its 115-member debt-counseling agencies nationwide.
“They’re out there living on their own and have a whole new set of obligations.”
It’s vital to have a plan to cut credit card debt.
To eliminate the temptation of credit cards, consider cutting some cards up.
You could also close credit card accounts.
Generally, you should think twice before closing older accounts, though, because doing so could hurt your credit score.
This is especially true for young adults who lack a long credit history.
One incentive to keep spending on credit cards is the reward: points that can be redeemed for airline tickets and other goods.
But rewards aren’t worth the risk of finding yourself deeper in debt.
Young adults “start out with good intentions” with credit cards, says Michael Furois, a financial planner in Phoenix.
But, “Spending spirals out of control if you’re not organized and disciplined.”
Twentysomethings — especially those right out of college — often must pay higher card rates than other adults because they’re considered riskier: They have limited financial experience and payment history.
One call to your credit card issuer, though, can sometimes lower your interest rate by a few percentage points and help you emerge from debt more quickly.
In the competitive credit card industry, most issuers will seriously consider your request for a lower rate, especially if you’re a good customer who pays on time, says Curtis Arnold, founder of CardRatings.com.
Twentysomethings with limited credit histories should aim for interest rates right now in the midteens, Arnold says.
But those who have at least two to three years of credit history, and have managed credit responsibly, can probably get a better rate, he says.
Lower rates could save you hundreds of dollars over the term of your loan.
For instance, if you have $10,000 in credit card debt with interest accruing at a 20% rate, it’ll take you 33 months to pay it off, according to Bankrate.com.
(This assumes you pay $400 each month. Most issuers set the minimum payment at 4% of the balance, so the minimum would start at $400 and drop as your balance does.)
At a 14% interest rate, though, that debt would take 30 months to get rid of, assuming the same monthly payment.
You can calculate how long it’ll take you to get credit-card-debt-free on Bankrate’s website, at www.bankrate.com.
If you’ve racked up debt on more than one card, the rule of thumb is to tackle the highest-rate loans, rather than the card with the highest balance, first to cut your debt load faster.
Monitor your accounts closely, though, because credit card rates change all the time.
Some planners recommend a different strategy: If you have a small balance on one credit card, pay that off first — even if it’s not the highest-rate debt you carry.
“I think, psychologically, the happiness of seeing a credit card paid down is far greater than the little in interest you’d be saving by not paying the higher-rate credit card off first,” Furois says.
However you decide to tackle credit card debt, make sure you still pay at least the minimum on other accounts — credit cards as well as student loans.
If you need help juggling your various loans, credit counselors can craft a monthly payment plan for you, and often, negotiate lower rates with your creditors.
You can look for credit counselors on the National Foundation for Credit Counseling’s website: www.nfcc.org.
What do on-time payments have to do with getting out of debt?
Many banks adjust interest rates on your credit cards by looking at your payment history not only with them but also with other creditors.
That means that if you forget to pay any bill one month, your credit card rate could jump significantly.
In general, twentysomethings are more likely to pay late on their credit cards than the average consumer is, Experian’s study shows, thereby incurring fees and higher interest rates.
Because negative information typically stays on credit reports for seven years, one mistake can lead to higher rates for everything from credit cards to mortgages and car loans.
“If you have very little credit information on a report and a lender has just reported a 30-day delinquency, your score can tumble 100 points,” says Craig Watts, a spokesman at Fair Isaac, which created the FICO score, which is widely used by creditors to determine loan rates.
Consider setting up automatic transfers from your checking or savings account to your credit card issuer to make it easier to pay on time.
Also, read the fine print on your card statements.
Some banks now set cutoff times (for example, 2 p.m. on the due date) for when you have to get your payment in, making it harder to avoid late fees.
Beware of low-rate loans to pay off credit cards.
Financial experts say that they’re seeing more signs of young adults paying off high-rate cards with lower-rate loans, such as home equity credit lines and student loans.
The Center for American Progress, a think tank in Washington, reports median debt for twentysomethings climbed 33% to $21,070, adjusted for inflation, from 1995 to 2004, the latest period for which figures are available.
Mortgage and student-loan debt for people ages 20 to 29 surged during this time, while median credit card debt fell slightly.
Twentysomethings, though, haven’t “stopped having credit card debt,” says Christian Weller, a senior economist at the Center for American Progress.
It’s possible that, “They’re just taking advantage of cheaper forms of credit, refinancing into other types of debt.”
Paying off credit card balances with mortgage debt can be risky; you’re putting up your home as collateral.
Same goes for taking out certain bank loans that must be secured with hard assets.
If you’re considering paying off your credit cards with student loans, just be aware that student-loan debt can’t be discharged if you ever have to file for bankruptcy.
What about those low-rate balance-transfer offers on credit cards?
Some banks charge 3% of the amount transferred.
How to escape card debt (USA Today)
Credit card debt is like mold: The longer you ignore the problem, the more wildly it grows. If you’re a twentysomething, you may have put tuition or books on your credit card while you were in college.
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Written by Adam on December 28th, 2006 with no comments.
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