Does Opening a Credit Card Hurt Your Credit?
Key Points About: How Opening a Credit Card Affects Your Credit Score
Length of credit history and credit utilization ratio are determining factors in a person’s credit score.
Creditors will do a hard inquiry on each new credit line applied for, potentially negatively impacting credit scores.
Impacts to your credit score from opening a new card are less severe than missing payments or closing a longstanding credit card account.
Per FICO, opening a new credit card account can impact your credit score in two primary ways. First, the card issuer will likely pull your credit report as part of their review process. That inquiry on your credit report can lower your score – but generally has a small impact on your FICO® Scores1 (for most people, this means less than five points off their FICO® Score). In addition, the issuer will report the newly opened account to the credit bureaus, which impacts length of credit history characteristics. The exact impact depends on the applicant’s unique credit history. Over time, though, getting a credit card can help build a better credit history if you pay it on time and carry minimal debt (basically using all your credit accounts responsibly). As you build up a history of responsible behavior, and it’s reported to the major credit bureaus, you can be on your way to a better financial future.
Those are far from the only ways that opening a credit card can potentially impact your credit score – see below for more details.
How opening a credit card can help your credit score
Responsible handling of your finances, potentially with the opening and use of a credit card, can help build a good credit history over time. For example, while FICO® Scores are made up of several components, one important category is amounts owed, which typically makes up 30 percent of your overall score. This component addresses your debt-to-credit ratio, or credit utilization rate. Essentially, it measures how much of the credit extended to you, also known as your credit limit, is being used and paid off. Per FICO, a low credit utilization rate will more positively affect your FICO® Scores than not using your available credit at all because it shows that you are capable of handling credit responsibly.
How many credit cards do you need to build credit? The answer depends on your credit utilization and how much credit you need, so consider the ratio of how much you spend compared to how much credit is available to you on your card, or cards. For example, opening a credit card may lower your debt-to-credit ratio. Say that you double your total credit lines available from $5,000 to $10,000 by opening a second card, but you simply spread out your current spending of about $1,000 per month across those two credit cards. This would improve your utilization ratio, meaning that you’re spending $1,000 out of $10,000 available to you, for a utilization of 10 percent instead of 20 percent when you had $5,000 available.
But remember, using more credit could make you less likely to pay back what you’ve borrowed. A high utilization ratio fits the profile of someone who might be “living on credit.” That’s a fiscally dangerous way to live, and a higher risk for potential lenders. Whenever possible, you should try not to use all your available credit.
Could getting a new credit card hurt your credit score?
Despite all of the ways that a new credit card can help your credit score, there’s always the potential for it to hurt your score under certain circumstances.
For example, if you were to open up several new lines of credit in a short period of time, you may see a drop in your FICO® Scores. Applying for several new credit cards could be seen as a sign of riskier spending, and the credit scoring formulas could penalize consumers for opening multiple accounts within a few months’ time.
Also, if having a new credit card account leads to incurring more debt and the potential to exceed your credit limit, then your credit score also can suffer. And if having too many accounts causes you to make late payments, then that could hurt your credit score.
Another way that getting a new credit card can hurt your credit is if you use a balance transfer offer to transfer the balance of a loan to your new credit card, which can increase your debt-to-credit ratio and reduce your mix of credit.
Finally, opening a new credit card will reduce the average age of your accounts, especially if you have few credit cards and they have all been open for a long time. Having a low average age of accounts is a factor in having a low credit sore. About 15% of your FICO® Score is determined by the length of your credit history.
Does pre-approval for a credit card lower your credit score?
Whether you get a pre-approval offer or fill out a form for pre-approval, your credit score is usually not affected. This is because pre-approval uses what’s known as a soft inquiry on your credit report, meaning the credit card issuer is checking your credit history, but will not complete a hard inquiry until you formally apply for credit. Soft inquiries don’t affect your credit score.
When you build a good credit history by using your credit card responsibly, it could open up an opportunity to get a credit card that provides a cashback rewards program. For example, some cards offer cash bonuses, while others offer cash back rewards or miles, and many of these cards are available with no annual fee.
If you’ve got an excellent credit score, you may score a lower interest rate on your card, or have more reward options as issuers compete for your business. In short, having excellent credit gives you more choices. As you research credit cards, remember that the best cards tend to offer the best overall benefits that are most valuable to you, relative to the cost.
Reasons to avoid a low credit score
By contrast, having a low credit score can make life more difficult when it comes to applying for a personal loan, renting an apartment, or getting a mortgage, for example. It may also cost you more money in the long run, as you may have to pay higher interest rates on the loans you are able to get. Larger, more reputable lenders may be reluctant to loan you money if you have a lower credit score, so you may be forced to borrow from less-than-reputable sources, such as payday lenders or title loan companies. These types of lenders often charge extremely high interest rates. In addition, your credit data may impact your insurance premiums, your career prospects, even your ability to access utilities, such as electricity, water and the internet. Individuals with a poor credit history often pay higher fees for auto and homeowners policies, and employers may be hesitant to hire you if they pull your credit report and don’t like what they see. Many utility providers require customers with bad credit to pay a security deposit upfront or submit a letter of guarantee, which acts like a co-signer or guarantor if you fall behind on your payments. Finally, you may miss out on the best rewards credit cards. Access to these cards typically requires you to have a high credit score to get the best introductory and balance transfer offers and cash back incentives. Discover offers multiple rewards credit cards for students and those new to credit. You can check to see if you qualify for pre-approval for a new credit card with Discover without hurting your credit score.
Factors that can lower your credit score besides applying for a credit card
Although opening a credit card may cause your credit score to be lower temporarily, other factors can also contribute to a low credit score.
High credit card balances
If you have recently made some large purchases and only paid the minimum due on your credit card, this can hurt your debt-to-credit ratio, and may be responsible for your credit score being lower than it was.
If you missed a payment on one of your cards last month, or if you paid your mortgage late, you could see a significant drop in your credit score. Late payments have a big impact on your credit score..
Recently closed accounts
Just as opening a new credit card decreases the average age of your accounts, closing an older account will decrease the average age of those that remain. If a card you don’t use has no annual fee, it may be more helpful to keep the account open and just use the card often enough so that the issuer doesn’t close it for lack of use.
The bottom line
One of the keys to having an excellent credit score is to establish a history of paying your bills on time, and carrying very little debt. The next time you see a competitive offer for a credit card, you can consider how the application may impact your credit score when deciding whether to apply. And as you build excellent credit, you can start to reap the benefits in terms of more flexible personal financial tools.
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