One of the most dangerous urban legends that plagues credit card users is the idea that it’s beneficial to carry a balance month-to-month. Parents still tell their kids this, friends “sagely” advise their BFFs about the topic, and in the meantime, people’s interest payments just get more expensive.
A small LendEdu poll of millennial cardholdersfound that the majority of customers understood the repercussions of a missed or late payment on their credit scores. (It will go down.) But 17.48% of people “thought their credit score would remain unchanged,” while “5.59% believed their credit score would go upif they missed a credit card payment.”
These cardholders aren’t necessarily clueless, but they may be mixing up the impact of credit utilization and revolving credit card balances.
“I think people get confused with this idea, because it’s not necessarily a bad thing to carry a balance on a credit card,” says Shannon McLay, the president and founder of The Financial Gym. “If you pay your current balance off on time every month, you will avoid the true pain of carrying credit card balances. [But] if your balance carries over to the next month and continues to do so, your card balances become true headaches, because this is where credit card companies start to make money on you.”
In other words, in order to build a credit card history, you have to actually spend money on a credit card and let those purchases be reflected on your statement cycle. (Ideally, you would keep that credit utilization ratio under 30%, using roughly one-third of the credit extended to you, at any given time.) If you let a balance carry over from one month to the next, you’ll start to accrue interest on those balances, with “some cards charging up to 24.99%,” McLay notes.
If you do the math, that’s as much as $25 of interest for every $100. After you pay that $25, you’d still owe the $100 on the card.
“If you only make minimum payments on these cards, your payment amount is almost exclusively just paying interest to the card company and not paying down your balance.” Plus, it’s important to keep in mind that many credit card issuers charge a daily periodic rate, meaning the interest you owe is calculated daily based on that revolving balance — not once per month.
If you don’t have a credit card grace period (in which you can pay off the balance in full, interest-free, by a given due date), the best course is to pay off your balance in full before the end of the statement cycle. If you can’t do that just yet, make sure you make the minimum payment and as much as you can put toward the amount you owe.
“As long as you make your minimum payments and keep your credit card utilization below 65%, you can maintain a good to excellent credit score, which is why people feel like it’s not a problem to carry a balance,” McLay explains. Nonetheless, she says “a best practice is to charge what you know you can pay for by the end of the credit card billing period.”
Have too much to pay off at once? Consider the “snowball” method of paying off as much debt as possible on your most expense balances (i.e., the ones with the highest interest rates), and working your way down.