At a high-level, credit scoring is fairly straightforward: Pay all your bills on time, keep your debt levels low, apply for credit as needed and you'll be rewarded.
But dive a little deeper and you'll quickly realize credit scoring is an odd duck. In fact, some smart spending strategies can actually damage your digits, at least in the short-term.
Here are seven good behaviors that can oddly mess with credit and some tips for getting ahead of any long-term problems.
1. Avoiding credit entirely
You need to use credit to build credit. So, while it's seemingly smart to put off financing before you absolutely need some — say you decide to buy a home — you'll have no credit history to show the lender and a near-impossible time getting a home loan.
That's the big credit scoring Catch-22, but here's the thing: You don't need to carry debt to establish good credit. Contrary to many a cranky Internet commenter, you can open a single credit card, pay your monthly balances in full and eventually build a decent score.
2. Swearing off installment loans
Having said that, credit scoring models like to see that you're capable of managing different types of credit. The big two financing categories:
- Revolving credit, where you have a credit limit, but control of how much you use, don't use and, outside of a monthly minimum, how much you pay back. Think credit cards and home equity lines of credit. Learn more about revolving credit.
- Installment loans, where you borrow a lump sum of money and agree to pay it back within a set period of time at a set interest rate. Think auto loans, student loans and mortgages.
You can avoid debt with a credit card, but installment loans, by nature, involve red ink. Again, you can build good credit without one, but, technically, you almost always need a mix of accounts (read: some debt) on your credit report to walk among the credit elite.
3. Closing a credit card ...
You've paid off a big chunk of credit card debt and to ensure you don't rack up new charges, you decide to close a card or two. A responsible move, for sure, but your credit score might suffer for it. That's because the credit limit associated with a card is going to come off your credit report as soon as the issuer reports the closure. And its disappearance could skew your credit utilization rate, especially if you've got big balances on any remaining cards.
Credit utilization — how much debt you're carrying vs. how much credit is at your disposal — is a major credit score influencer. The lower that ratio, the better, but general rule of thumb says keep debt to at least 30% of your total credit limits. In other words, if your heart is set on closing a credit card, be sure you're carrying little-to-no debt on the plastic you plan on keeping.
4. ... or never using one
You don't need to carry a credit card balance to build good credit. Pay your balances off in full each month and your score will be just fine (and then some). But keep a credit card completely on ice for too long and the issuer might close the account on you. That'll hurt your credit utilization, which (see above) can damage your credit score.
There are few workarounds to this problem: (1) You can mitigate an unexpected closure by paying down debt on your remaining card(s) or (2) You can use an otherwise dormant credit card to pay a small monthly subscription, like your streaming service or cloud storage. Set up auto-pay, though, so you don't miss a bill.
5. Paying off a loan
Google "why did paying off my car loan hurt my credit score" and you'll find a chorus of consumers complaining about lost points. And, this time, the Internet's got it right. Per credit bureau Experian, open, active loans are scored higher than closed loans because they demonstrate you're handling your credit properly today and not, like, a year ago.
So paying off an installment loan, particularly, can cause your score to take a (usually temporary) dip. And doing so ahead of schedule can rob you of the opportunity to bolster the length of your credit history, which accounts for about 15% of most scores. Again, that doesn't mean you shouldn't get rid of that debt. It just means you should check your credit and consider the ramifications before doing so.
6. Settling a debt for less
You had an account go to collections (it happens) and want to square up. You offer to pay a lump sum of money that's below what you owe, because you've heard debt collectors go for that sort of thing sometimes. And — whaddya know? — they do. So now you've made good on an IOU and saved some money. But the move will probably ding your credit score.
Failure to pay an account as agreed — i.e. settling a debt for less — is considered a red flag by most credit scoring models. That's not to say a settlement is a bad move. It'll stop more interest from accruing and preclude collectors from suing and securing a judgment against you (an even bigger credit score faux pas). Still, it is worth pointing out, the best way to keep your credit score in tact(ish) after a debt goes into default or collections is to pay in full as soon as possible.
7. Consolidating your credit card debt
A balance transfer credit card offer is one of the best ways to deal with burgeoning credit card debt. They let you transfer a high-interest balance to a new credit card with low-to-no interest for a set period of time, usually 12 to 21 months. So you spare yourself a ton of interest.
But the move can cost you a credit score ding. Why? Well, getting a new card means a credit inquiry will appear on your credit report, costing you anywhere from three to five points. More pointedly, credit scoring models don't just look at your credit utilization across accounts. They also factor in how much debt you're carrying on individual cards. If you transfer a balance (or two) to a card with just enough of a credit limit, your utilization rate will likely take a hit.
The good news: That debt is no longer collecting interest, so you should have less trouble paying it back ASAP. And once you get the new card's balance down, your score should improve. Just tread carefully: A short-term ding can turn into a long-term dent if you don't pay the transferred balance back and run up new charges on the old card.
Having serious score troubles? Here are five ways to improve your credit in 30 days or less.