Does paying off your credit card build credit

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Credit cards can make paying bills and covering everyday expenses considerably more convenient, but they can also create problems if not paid in full.  There’s generally no benefit to carrying a balance when it comes to your credit score. The only reason to charge more than you can pay in full at the end of the billing cycle is that you need more time to pay down a big purchase.

Having a balance on your card can affect your credit score, but it may not always have a negative impact. There’s no “right” or “wrong” answer that applies to every situation, and there are plenty of scenarios where carrying a balance isn’t the end of the world. Here’s what you need to know.

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How a Credit Card Balance Can Negatively Impact a Credit Score

Debt is Expensive

Carrying a balance on your credit card can be an expensive proposition, and that’s especially true if you’re using a credit card with a high APR.  Sometimes, paying a balance on a credit card over time can be a smart money move, like paying down consolidated debt with a 0% APR credit card. But if you’re racking up debt without any sort of goal to eventually pay it off, you’re not doing yourself any favors and you may find yourself unable to make a payment at some point.

The most important factor affecting your FICO score is your payment history, which counts for 35% of your score.  If you make even a single credit card payment late, you’re at risk for taking a big hit to your credit score. And obviously, subsequent late payments can cause even more damage over time.

Late payments that are reported to the credit bureaus can remain on your credit reports for up to seven years. This means the consequences of paying your credit card bill late could affect your financial standing for several years.

Using Up Too Much Available Credit

Another important factor that makes up your FICO score is the amount you owe in relation to your total credit limits. This is also known as credit utilization, and it makes up 30% of your score.

Borrowers who are constantly at or exceeding their credit limits are considered “risky” by the algorithms that determine credit scores. Most experts, including those at the Consumer Financial Protection Bureau (CFPB), suggest keeping your total utilization below 30% to avoid a negative impact to your credit score. So someone with a total credit limit of $10,000 would aim to not charge more than $3,000 total across all of their credit cards.

Should I Leave a Small Balance on My Credit Card?

In addition to keeping your total utilization across all cards below 30%, you should try to keep utilization below that level on each individual card you own. If you carry the bulk of your debt on a single credit card and little to no balance on the others, the high utilization on the card you use the most could also be bad news for your credit score.

For example: Let’s say you have four credit cards with a total available balance of $20,000. You carry a balance of $7,000 on one credit card that has a limit of $10,000, so your utilization on that specific card is 70% (7,000/10,000 = 0.7 or 70%). Even if you don’t carry balances on your other credit cards, the utilization on this card doesn’t bode well for your credit score. And that’s true even though your total utilization across all cards would only be 35% (7,000/20,000 = .35 or 35%).

Other Situations Where Carrying a Balance Doesn’t Make Sense

We’ve shown how carrying a balance can hurt your credit score in both the short-term and the long-term, but there are plenty of other reasons to avoid carrying a balance on a credit card. Here are some scenarios when carrying a balance is a bad idea:

When Using a Credit Card to Earn Rewards

The credit cards with the most perks, including travel rewards credit cards, tend to charge the highest APRs in order to make up for their benefits. This creates a situation where many people who pursue rewards wind up overspending and carrying a balance, which means the interest they pay is easily wiping out the value of any rewards earned.

Consider that the average credit card APR at the end of Q4 2021 is 16.44%. At the same time, most rewards and travel credit cards cap earnings in the single digits, anywhere from 1% to 6% of the purchase price.

Even if you transfer points to an airline partner to cover pricey business class flights or other luxury travel, you would be incredibly hard-pressed to get value that is anywhere close to the amount you’d spent paying the interest charges on your credit card bill.

Using Your Credit as a Crutch

If you frequently charge more than you can afford to pay off each month, it’s likely that you would benefit from tracking your spending and using a monthly budget. This can help stop you from leaning on your credit and ultimately paying high interest on every purchase that ultimately makes everything you charge to your card more expensive.

Your best bet is figuring out how to spend less than you earn each month. That way, you can stop racking up more debt and focus on paying off the debt you already have.

Paying Off a Large Purchase

Remember that credit cards don’t work very well as short-term loans even though they’re convenient. The interest rates they charge are simply way too high. If you need to purchase new home appliances, pay for a major repair to your home or cover surprise medical bills and you have to borrow money, you’re likely better off taking out a personal loan with a much lower APR. Note that personal loans offer low fixed interest rates, a fixed monthly payment and a fixed repayment timeline, whereas credit cards offer pricey variable rates that can go even higher over time.

When it comes to financing a large purchase, you can also consider credit cards that offer 0% APR on purchases for a limited time. Credit cards in this category let you avoid interest on purchases you make for a limited time–anywhere from six months to nearly two years. Just be aware that your interest rate will reset to the regular variable rate after the introductory offer is up. The best 0% APR cards may even earn rewards on your spending along the way, making them a good option if you want to rack up points and know you can pay off your large purchase in a fairly short amount of time.

As a Tool to Improve Credit Score

Carrying a balance on a credit card to improve your credit score has been proven as a myth. The Consumer Financial Protection Bureau (CFPB) says that paying off your credit cards in full each month is actually the best way to improve your credit score and maintain excellent credit for the long haul.

If your goal is improving your credit score, the best way is to pay all your bills early or on time, keep your credit balances low, fact check your credit reports and dispute any errors you find, and avoid opening credit accounts you don’t need.

You don’t need to pay interest to boost or maintain good credit, so don’t carry a balance because you think it will improve your credit standing.

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Bottom Line

Is carrying a balance on your credit card a bad idea? Yes. Most of the time, you’ll be better off if you can avoid it. You’ll maintain the best credit score possible if you keep debt at a minimum to begin with. You can avoid paying interest on everything you buy if you pay your credit card bill in full each month. While keeping your utilization below 30% of your total balances seems like your best bet, experts agree that avoiding long-term debt is probably the smartest move for your credit and your financial health.

Avoiding debt also lets you take advantage of important credit card perks like rewards and travel insurance without having to pay for the privilege. At the end of the day, you should strive to use credit cards to your advantage, and paying your bill in full and on time is the best way to do that.

Frequently Asked Questions

What does a negative balance mean on a credit card?

A negative balance on your credit card means the credit card company owes you that amount. This can happen when you overpay a bill or return an item and your statement credits are greater than your charges. You can apply that amount towards your next purchase or some banks will allow you to request a check. Policies will vary by issuer.

What does current balance mean on a credit card?

Current balance refers to the amount of money you owe on your bill at the time the credit card statement was generated. This includes outstanding charges, interest and any relevant fees. This is different from your statement balance, which shows what you owe at the end of each billing cycle. Your current balance can change from day to day if you use your card often.

How much of a balance is OK to keep on a credit card?

In general, it’s always better to pay your credit card bill in full rather than carrying a balance. There’s no meaningful benefit to your credit score to carry a balance of any size. With that in mind, it’s suggested to keep your balances below 30% of your overall credit limit. For example, if you have a total credit limit across all of your cards combined totaling $10,000, aim to keep the total amount you owe on your cards below $3,000.

How much will my credit score go up once I pay off my credit card?

Does paying off a credit card increase your credit?

Should you pay off your credit card every month to build credit?

What happens if I pay off my credit card in full?