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Credit repair is a service many people need after the recession. Some people attempt to preserve their credit without professional help and make some detrimental mistakes. One common mistake includes transferring balances to a single credit card to lower interest rates. Experts have concluded that it is better to have several credit cards than to consolidate debt to one credit card. Loan consolidation is easier for people to manage their finances, but credit reporting agencies consider the debt as one large debt and lower the credit score accordingly. Consider how this one simple mistake could be damaging your credit score.
How Does the Credit Score Algorithm View a Balance Transfer?
The credit score algorithm does not recognize a balance transfer, but the FICO score formula will examine the sum of the total credit card debt divided by the sum of total available limits. This amount is viewed as the overall “credit utilization.” When credit card holders transfer their balances to one card, this card will have high credit utilization and may lower the credit score by as much as 45 points according to Bankrate.
Opening a new account will lower a person’s credit score by more points beyond the balance transfer. The credit score will be lowered temporarily until credit history is established. Based on the activity on the card, the credit scores will fluctuate. If good credit history is established, opening a new credit card could eventually raise points by more than 100 points. Many people often open a new credit card when they receive an offer for zero percent interest. When a new account is opened, the average account age lowers. This also affects the credit score. During the balance transfer, the minimum must be paid on the original account until the process is complete. The process may take weeks. Be prepared to continue paying as long as it takes. If a payment is missed for 30 days, credit reporting agencies will take 60 points off a credit score.
Example of Credit Utilization
A person may have three credit cards with limits of $5,000 each. The balance on each of the three cards is $3000. Thus, the total debt is $9000, and the total credit limit is $15,000. To obtain the credit utilization ratio, divide the total debt by the total credit limit. In this scenario, the utilization ratio for each card is 60 percent, and the overall utilization ratio is 60 percent. This ratio is considered high and will lower the credit score. A customer may obtain another credit card to transfer balances. This card may have a limit of $10,000. If the total debt of $9,000 is transferred to the card, the customer will have a total credit utilization ratio of 90 percent. This will significantly lower the credit score. The only way to balance the credit score is to keep the three cards open with zero balance and zero percent utilization ratios. This will provide an effective overall utilization ratio of 36 percent instead of the 60 percent with no balance transfer or the 90 percent with only one credit card.
How Transferring Balances Could Help
Transferring balances to a no interest credit card for the first six to 18 months may help to eliminate credit card debt if it can be paid off before interest begins to accrue. If the debt is eliminated, the credit utilization will be lowered to zero. This practice can also be more attractive to future lenders if the total debt is removed.
Author bio: Ryan Devereux knows that credit repair is not easy. That’s why, before all else, you should ask yourself if logbook loans are a viable alternative to payday loans.