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A reader named Edward recently sent me some good questions about building credit and when to apply for a new credit card. I suspect a lot of other people are wrestling with similar issues. To summarize:
- Edward has a thin credit file (meaning he doesn’t have much of a credit history). His only active credit account is a secured credit card (a credit card that requires a deposit) with a $400 limit and a $36 annual fee. He opened the account about two years ago.
- His goals are to earn and maintain a good credit score and to get approved for a traditional (unsecured) credit card with no annual fee within the next couple of years.
- He’s also wondering if he should diversify his credit mix by applying for a buy now, pay later plan and/or a personal loan.
I have some good news for Edward: I think he’s much closer to his goals than he realizes. In fact, I think he’s already there.
No need to wait
Since he told me his credit scores are 781, 776 and 728, I think there’s a high probability that Edward would be approved for a no-annual-fee rewards credit card right now. Two of my favorites are the Wells Fargo Active Cash® Card (2 percent cash rewards on every purchase) and the Citi® Double Cash Card* (1 percent cash back when you make a purchase and another 1 percent when you pay it off). Neither charges an annual fee.
For added peace of mind, Edward can take advantage of our CardMatch tool which provides users with personalized credit card recommendations. We also have a “see your approval odds” feature on many of our credit card comparison pages.
On the chopping block
Assuming he applies and gets approved for a new card, I think Edward should close his existing secured credit card account. Normally, I don’t recommend canceling cards. Instead, when someone tells me a card isn’t working for them, I often suggest asking their card issuer for a product change.
A product change is a fancy way of saying that you want to switch to a different card (perhaps one with a lower annual fee or rewards that are more targeted to your lifestyle) without impacting your credit score. You keep the credit line open. That’s beneficial because canceling a card removes the available credit from your credit file, potentially causing your credit utilization ratio to spike and reducing your credit score.
However, in this case, I don’t see any reason to keep the old secured card account open. Edward’s card issuer focuses on customers who either have bad credit or are new to credit. It charges annual fees on all of its cards, its rewards aren’t particularly competitive and the cards tend to have very low credit limits. Edward’s secured card may have served him well at one time, but I don’t see any utility in keeping it open moving forward.
Don’t apply for credit just to build credit
He also told me that he needs a new set of tires soon and is considering a buy now, pay later financing program offered by the repair shop. His primary motivation is to build credit, since he says he has enough cash on hand to pay for the tires. Knowing that, I think Edward should use his soon-to-be-opened cash back card and pay the bill in full before interest is due. Most buy now, pay later plans aren’t currently reporting to the credit bureaus (although the industry is trying to improve that), which means they aren’t likely to affect his credit. They don’t tend to give rewards, either.
If you’re considering a buy now, pay later plan, it’s crucial to consider your specific terms. These vary widely. Four interest-free payments over six weeks is a common example, but increasingly, these providers are offering longer-term plans that sometimes charge interest rates all the way up to 30 percent or so.
Regarding the personal loan, I wouldn’t open one of those just to build credit. The average personal loan rate is 11.31 percent, and many of these loans assess origination fees as well (typically from 1 to 8 percent of the amount borrowed). Using a no-annual-fee credit card responsibly can help Edward maintain a solid credit score without incurring any fees. His situation is particularly interesting because he says he’s 60 years old and doesn’t plan on applying for a car loan or mortgage in his lifetime.
If anything, he could try to enhance his credit score by signing up for an alternative credit monitoring service such as Experian Boost. Users can improve their credit scores by incorporating certain on-time rent, utility and streaming service payments — all things that haven’t historically counted toward most credit scores.
Edward also might benefit from adding a second rewards credit card in a year or two. But I wouldn’t recommend applying for a loan that charges interest or other fees just to build credit. His credit scores are already more than good enough, and besides, you shouldn’t need to pay in order to improve your credit.
The bottom line
While building and maintaining a strong credit score is more of a marathon than a sprint, there are ways to improve your score relatively quickly. In Edward’s case, I believe that using a secured credit card as a stepping stone to a more desirable rewards card is about to pay off.
Have a question about credit cards? E-mail me at firstname.lastname@example.org and I’d be happy to help.
*The information about the Citi® Double Cash Card has been collected independently by Bankrate. The card details have not been reviewed or approved by the issuer.