In the previously recorded Facebook Live video segment below, Motley Fool analysts Nathan Hamilton and Michael Douglass talk about six things you may not have known about credit cards, including tips on slashing credit card fees and improving your credit score.
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Michael Douglass: Hi, folks! My name's Michael Douglass. I'm joined by Nathan Hamilton. We're a pair of analysts here at The Motley Fool, and we're here to talk about credit cards. Actually, this isn't our first time talking about credit cards on Facebook, but frankly, last time went so well that we decided to do it again. If you have questions, we would love to hear them, so just reply in the comments section. We'll do our best to answer whatever questions come our way, or at the very least, get in touch with you to pass along what we have. But first off, we thought we'd start with six things you probably didn't know about credit cards.
No. 1, Mr. Hamilton. The fact is, you apply for a bunch of credit cards, it won't tank your credit score permanently. That's the important word here, "permanently."
Nathan Hamilton: Yeah, because a lot of people do avoid applying for new cards, thinking, "OK, the credit score dropped from more hard inquiries, that's going to permanently impair my credit score." But really, when it comes down to it, the opposite can actually take place, because when you do apply for a credit card, no doubt about it, your credit score is going to take a small, temporary, short-term hit. But what's happening is, if you're paying your bills on time and you're establishing a better payment history, if you're not overextending yourself with that debt, those are two factors that have a huge weight and influence in your FICO score. If you're able to open a new card that, in the long term, you establish a better payment history of managing debt, your FICO score can actually improve from applying for a new card.
Douglass: And one of the big things we should talk about here is, when you think about your FICO score, the two largest components are, 35% of your FICO score is payment history. Basically, do you pay bills on time? Do things go to collections? Should be yes and no. Then 30% is credit utilization. That's how much of the debt available to you at any given time you're using. Opening more cards, long-term, if done responsibly, can actually be a net plus. Let's say you spend $500 a month on credit card bills, and you pay it off each month. Your current credit card has a $1,000 limit. You're at 50% utilization, because $500 is 50% of $1,000. You open another card with another $1,000 and you shift half that $500, $250 over to it, you're at 25% utilization across the board. That actually reduces that utilization, which boosts that part of your credit score. So that can actually be a long-term win, if managed well.
Hamilton: Yeah. You hit some very good points there. I think the moral of the story is don't necessarily be afraid of applying for a card just because you're worried about the impact to your credit score, because there are some favorable advantages, as we both covered here, that can increase your credit score over the future. Don't shy away from it. Don't go crazy with it, of course, but it's definitely something that people shouldn't be as concerned about.
Douglass: Yeah. No. 2 -- this one was a real surprise for me -- Americans aren't actually as bad at managing their credit card debt as we're all led to believe. This is something that I would blame a little bit on the financial media, in general, because people say, "Gosh, $779 billion in credit card debt!" You hear that number and you're like, "Gosh, we're in a lot of debt."
Hamilton: "We're screwed."
Douglass: [laughs] Right, we can't win. But it turns out, actually, that that number is both more complex and also not quite as bad as it seems.
Hamilton: Yeah. Big financial numbers will always shock people, but if you look under the hood -- and we've talked about this before -- at how people are managing their debt, there are signs that actually point toward people getting better at managing debt, and part of that is credit utilization ratios -- like you mentioned before, the amount of debt we have available and what we're actually borrowing -- are decreasing over the past decade. They've almost halved themselves down to 23%. Now, that's coming off the financial crisis, where a lot of people were over-leveraged. But it does show a positive sign of, people are managing their debts better.
Douglass: And to be clear, credit utilization is down from about 28% during the financial crisis, to about 23% today. That's about a quarter. Then, also 90-day delinquency has been cut almost in half in the past decade to 7.1%. That's huge. That basically means that people have more credit available to them, and they're using less of it. They're using some more on an objective basis, like, instead of $1, they're using $2, for example. But also, they're better at managing it because the delinquencies are going down. That's a really good sign.
Hamilton: Yeah. I'd like to dive into the data even further. Looking beyond averages of every single American, and more look at it of people carrying debt and incurring interest charges, what are their delinquency rates? What are their debt balance is doing? What are their utilization ratios doing? Because you may find a different story, because you look at it overall, it suggests we're doing better at managing debt, but there may be pockets where people maybe need a little bit more help.
Douglass: Yeah, absolutely. No. 3.
Hamilton: I like this one a lot.
Douglass: [laughs] Yeah, this one feels like a credit card hack. You don't need to pay every late payment fee. Take it away.
Hamilton: Yeah. As part of legislation coming out of the financial crisis, there were definitely more consumer-friendly behaviors that were implemented with credit card companies.
Douglass: Which, as consumers, we're very excited about. Also, at The Motley Fool, we are consumer advocates, so we very much like things that are pro-consumers.
Hamilton: Yeah, and we hate fees, too.
Douglass: So win-win.
Hamilton: So, part of the legislation says that if you incur a late payment fee, you can waive at least one late payment fee each year -- that's your right as a card holder. Now, credit card companies won't come out and say that, so, of course, it's on you to call up your issuer and say, "Sorry, I'm missed a payment, let's go ahead and waive it." But don't let anybody tell you different, this is something you have as a right as a cardholder, to be able to waive that late payment fee.
Douglass: Yeah. Of course, on the flip side, also keep in mind your credit score. There's no faster way to tank it than to actually miss a payment. This isn't the one that gets waived, but something else. That's something to always keep in mind. We're not saying here, "Don't make your payments." We're saying, "Get this one waived if you make a quick call." The way I like to think about this is sort of like paying yourself a salary. Who likes negotiating your cable bill, or calling your credit card company to try to get a payment waived? But if for 10 minutes of hold time and five minutes negotiating, so 15 minutes, you're able to save $20, I don't know about you, but I don't make $80 an hour, so that's a lot of money I'm putting back in my own pocket that is a relatively low time-spent cost for me.
Hamilton: Yeah, it's definitely worth it. Getting back to what you mentioned before, the impact your credit score, it's important to realize that if you're late by less than 30 days, that's not reported by many card issuers to the credit reporting bureaus, and that's not impacted, that's not affecting your credit score. Once you go beyond 30 days, if you are 30 days late, boom, that's where you have the big impact, and it's something you want to be aware of in addition to the fee.
Douglass: Right. Cool. Let's head over to No. 4. This one really surprised me.
Hamilton: Another fee one.
Douglass: Yeah. And this is something I plan to do now that I'm aware it's a thing we can do. You can likely get the annual fee waived, or potentially secure a lower APR.
Hamilton: I'm with you, I'm in the same boat. I typically go for a no-annual-fee credit cards, but there are some that I've had over my lifetime as a borrower that have incurred annual fees, and I've actually closed down the accounts to avoid it. But I'm actually going to change that in the future, because some recent research we came across from Bankrate shows that 80% -- four in five card holders -- that actually ask for an annual fee to be waived receive some sort of leniency. Now, that's either waiving the fee entirely, or a reduced annual fee. That's simply by calling up their credit card company. Maybe if you're late on a payment and have that 10 minutes --
Douglass: Maybe not so great during that moment. Maybe that's a different call. "Oh, while you're on the phone, can I also ... "
Hamilton: Yeah, "Waive these two fees for me." So, yeah, the moral of the story is, you're likely to get it if you do ask for it. Also, on reducing your APR, if you do ask for that, research suggests that the odds are in your favor of getting a reduction.
Douglass: 69% of people who ask for it got it. That's incredible. Listen, life happens. A medical bill, a surprise, something that you had to put on plastic because you're in a spot where you have to -- if you're able to reduce that APR, that makes that financial shock not as bad and enables you to pay it off faster. You never want to carry a credit card balance, ever.
Hamilton: Yeah. As soon as you can get an APR down if you are in debt, you're paying off your debts faster, you're saving more, you're investing sooner, you're reaching your retirement goals a lot faster, which is ultimately the goal.
Douglass: Yeah. No. 5, how credit card companies make money.
Hamilton: This is actually going off of the previous one about getting an annual fee reduced. It's important to understand how credit card companies make money. When you're calling to get your annual fee hopefully down to $0, you can plead your case. And knowing how they make money is important because, No. 1, interest charges. If you look at how much card issuers made in 2016, this was $63.4 billion in interest charges. Interchange income, which is essentially the fee that merchants pay each time you swipe the card, came in at $42.4 billion. Third one, cash advance fees, which are still very high $26.6 billion. So, if you are calling your card issuer to say, "I want to have my annual fee waived," to make your case you can say, if you're in debt, or if you're incurring interest charges, you can say, "I've been paying these interest charges, you guys are making money off of me, perhaps you can work with me some to lower the fees." Or, if you're on the other side of the ball and you don't pay interest, you pay your bills monthly, you just earn rewards, if you are frequently using your credit card, the issuer is receiving that interchange income for every single swipe. Generally, that's about 2% of the transaction, so you could make the case and say, "I've been using my card frequently for six months, one year, five years, whatever."
Douglass: "This is worth a lot more than that $50 annual fee you're getting, trust me. You want to keep me happy and keep me making you money." It's a win-win. If you're not paying fees, and they're getting their interchange fees, they're making a buck, you're making a buck, it's not so bad. No. 6 -- again, very much something that is not in keeping with the general thing people hear. The fact is, points cards may not be the right fit for you. Again, everyone is always talking about, "I got these two plane tickets with my points," or "I got this cool Caribbean vacation with my points." So, I think people have this sense that they need points.
Hamilton: Yeah. It's important to put it in context. It depends on the card and depends on the person, so many different variables. But the reason I mention why points cards may not be a good fit for you is, generally, the conversion values, if you're going for something other than travel or redeeming points for cash back or a laptop or merchandise, gift cards, the conversion rate of each point to what it's worth for that redemption is typically penalized with a very low rate. You can look at a cashback card, many cashback cards offer 1.5% to 2% cashback. Many points cards, when you redeem them for similar cashback, merchandise, gift cards, are actually below 1%. If you look at it, we're going to get into it here and say a little bit about card companies, but the reason why points were initially used by credit card issuers is, it obscures the actual value, it makes it easier for consumers to not know what they convert to.
Douglass: Yeah. I just got 100,000 points.
Hamilton: It's worth $1.
Douglass: Right. That's the thing. What matters is not how many thousands of points you got, but what that actually converts to in hard currency.
Hamilton: Yep. And here's the most telling sign: If you look at points cards -- if you go to their offer pages and look at it -- typically, you're not going to see what those conversion values are. You have to go to a third-party website who's done the research on your behalf to figure out, this is what it's worth for a gift card at Amazon, this is what it's worth for a cashback statement credit, this is what it's worth for travel, where you do get a good yield, but everything else, here's what you're actually getting. You won't see that on the marketing page for a credit card, which, you want to look at that and say, what else is there to look at that somebody might not be telling me?