Money Myths: 10 Ways We Fool Ourselves About Managing Credit

Dear Readers,

April Fools' Day can make for a good joke, but there are certain myths about money that, if not dispelled quickly, are no laughing matter. And misconceptions about credit and debt are right at the top of the list. Here are 10 common myths about credit that can lead to financial trouble. Don't fall for them!

Myth 1) A credit score is only important if you need to borrow money.

If only it were that simple. Of course, your credit score impacts your ability to borrow, but nowadays it can affect many other areas of your life, including:

• Interest rates—Whether you're looking to finance a home, a car or a washer and dryer, the better your credit score, the lower the interest rate you may be offered.
• Renting a new home—A prospective landlord can run a credit check to see if you're a good risk. Things like late payments and collections not only lower your score, they can be a deal breaker when it comes to renting.
• Insurance premiums—In some states, insurance companies use credit-based insurance scores to determine your premiums. A poor credit score can increase your costs for home and auto insurance.
• Job prospects—More and more companies use your credit history when screening for jobs. This can impact your ability to get—and keep—a job, as well as your eligibility for a promotion.
• Security clearance or military deployment—For federal workers in national security positions including members of the military, late payments, collections, bounced checks, large debts or credit report errors can upend your career, jeopardizing deployment or a promotion.

Myth 2) Carrying a high balance helps build credit faster.

That’s false. The only thing carrying a credit card balance builds is your interest payment—and the total cost of what you financed. To build credit, it's much better to pay off what you charge each month and never carry a balance.

Myth 3) As long as you don’t go over your credit card limit you're fine.

Wrong. In fact, to improve your credit score it's best to use less than 30 percent of your credit line to keep your "debt utilization" rate low. Debt utilization is the amount you borrow relative to the amount you're able to borrow. A high utilization rate—or even an increase in the amount of credit you're using—can flag you as a higher risk, lower your credit score and raise your interest rate.

Myth 4) Closing out credit cards will improve your score.

Wrong again—for a couple of reasons. First, closing cards decreases your available credit and increases your debt utilization ratio, making it look like you’re borrowing at a higher percentage. Second, closing cards can reduce the average age of your accounts, making you seem like a newer borrower, which can lower your score.

However, closing a credit card can help you manage spending and protect you from identity theft if you're not using the account. If you decide to close a card, you may want to adjust your spending or pay down existing balances at the same time to keep your debt utilization ratio steady.

Myth 5) Getting married merges your credit history.

Even when you say "I do," your credit histories always remain separate, unless there's a joint account or authorized user. In that case, there's a shared history, and you're jointly liable for any charges. If you're divorced or separated, a joint account still means joint liability, and any new or unpaid debts can affect your credit score. I suggest every couple openly discuss their attitudes toward credit and debt early in their relationship.

Myth 6) You can pay a company to quickly remove bad credit marks from your history. 

Accurate negative credit information can stay on your credit report for up to seven years. Bankruptcies can stay on your report for up to ten years. In fact, no one can remove negative information such as late payments from a credit report if it's accurate, no matter what a credit "repair" company promises you. Use caution before signing up with any company that offers credit repair or counseling services. 

Myth 7) Checking your credit report will negatively impact your score.

Absolutely not. You're entitled to receive a free credit report annually from each of the three major credit rating bureaus (Equifax, Experian, Transunion), and I highly recommend getting them. Just go to annualcreditreport.com. 

Myth 8) There is only one credit score.

Actually, there are quite a few credit scores, and different rating agencies often have more than one. You can even have different credit scores from the same agency because scores are calculated at different times and according to different criteria. For instance, FICO recently made changes to its criteria, which I discussed in a previous column.

The important thing for consumers to understand is what basic factors go into a credit score: payment history, unpaid debts, age of accounts, debt utilization ratio, new credit applications and types of credit.

Myth 9) Shopping for credit will hurt your credit score.

This is less straightforward. It depends on how you shop, the type of credit you're shopping for and your timeline. For instance, applying for multiple credit cards within a short time can have a bigger negative impact on your credit score than shopping for a home or auto loan. In general, comparison-shopping within 14 to 45 days for an auto loan or mortgage is considered a single inquiry. But trying for a mortgage and a car loan at the same time could have a negative impact.

That said, it makes sense to shop around. To minimize any negative impact, pull your credit report in advance to check for errors, and concentrate your rate shopping into a short amount of time.

Myth 10) Having more credit cards improves your credit score.

This also is a potential yes/no situation. Having multiple credit cards can improve your credit history. But it can also tempt you to spend more and be late on payments, which would lower your score.

Ultimately, the best way to improve your credit is to borrow responsibly. Understand these myths and you won't be fooled into taking on too much debt—a financial prank to avoid any time of year.

Have a personal finance question? Email us at askcarrie@schwab.com. Carrie cannot respond to questions directly, but your topic may be considered for a future article. For Schwab account questions and general inquiries, contact Schwab.