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Credit Card Debt Calculator”

How to improve your credit score

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Here’s something that you’ll almost never see on a financial TV show:

Consider 2 people…

  • One has great credit
  • The other has poor credit

In their 30s, they decide to buy houses of similar prices.

How much do you think they pay?

Simply by virtue of having different credit scores, the person with poor credit will pay over $68,000 more than the person with excellent credit.

Source: MyFico.com. Data calculated in October 2011.

Over $68,000. How many lattes is that worth?

THAT is the power of having a great credit score. Yet most “experts” will either (1) continue yammering on about lattes and clipping coupons, or (2) give worthless, high-level advice like “Improve your credit!” (Okay…how? Jackass.)

They do this because lattes and coupons are obvious and top-of-mind. In psychology, this is called the availability heuristic.

But just because something is obvious and top-of-mind doesn’t mean it’s important, which is why I love mocking dumb financial experts whose advice doesn’t work.

My goal with IWT is to show you what’s beneath the surface — what’s important, but not obvious — to get you BIG WINS.

So today, I’ll show you a step-by-step process to improve your credit score, which is one of the top 10 Big Wins you can get in your life.

The tactics: How to improve your credit score

You don’t need to become a credit weirdo like me and read 50 books on credit optimization to raise your credit score. You can actually ignore most advice and simply do a few, key things to dramatically improve your score.

In fact, there are 3 major steps that will have the biggest impact in improving your credit score. Check it: Here’s what your credit score is composed of:

Source: MyFico.com.

I’m not going to give you 50,000 tips on how to improve your credit score. Instead, I’ll show you 3 tips to raise your credit score that work:

1. Automate your credit card payments

35% of your score (the biggest portion) reflects your payment history, so even missing 1 payment can cause your credit score to drop 100 points, jack your APR up 30%, add $200+/month to your monthly mortgage payment (insane, I know), and more.

Set up automatic payment using my IWT system. I even recorded a video showing you the exact accounts that should pay each other, using my amazing artistic skills.

Notes on automating your payments:

  • Since 35% of your credit score is based on your payment history, setting up automatic payments is your Big Win here.
  • Instead of doing what most people do (wait until the end of the month, then try to remember to pay…and when they forget, they get slapped with huge penalties), set up automation so you never have to worry about this again.
  • You should ideally be paying off your entire credit card balance each month, but if you can’t, you can still improve your score by paying at least the minimums, on time, every month.

Here’s the video on automating your accounts:

2. Pay off your goddamn debt

If you have credit card debt, read on…

Too many idiots decide that since they have debt, they should game the system and play the 0% balance transfer game, switching balances from card to card to save a few percentage points on debt interest. Yeah!! Let’s stick it to the man!

What I’ve found is that they spend more time transferring balances from card to card instead of actually paying their debt off. Honestly, get a life. The credit card companies are smarter than you, so if you try to game them, it’s only a matter of time before they destroy you.

Instead, here’s what I want you to do:

  • Go to http://www.whatsthecost.com/snowball.aspx (my favorite debt calculator) and plug in your numbers
  • You will see EXACTLY how long until you pay off your debt. Stick to the plan via automation (see step 1 of this email)
  • Decide, optionally, to use the negotiation material from Chapter 1 of my book. It doesn’t always work, but when it does, you may get results like this…

Just followed tips from @ramit and negotiated to lower interest rate on my Gold credit card from 20% to 7%!!! Incredible!Tue Oct 25 00:15:39 via web


The results someone got 2 days ago using my book to negotiate their APR down.

3. Keep your old accounts open — and set up a $5 monthly charge on them

So many times, when people get motivated to “do something” about their credit cards, the first thing they do is close all the cards they haven’t used in a long time. Sounds logical! Let’s clean out the old cobwebs in our wallet!

In general, however, this is a bad idea: 15% of your credit score reflects the length of your credit history, so if you wipe out old cards, you’re erasing that history.

Plus, you’re also lowering your “credit utilization rate,” which basically means (how much you owe) / (total credit available).

Bottom line? Even if you don’t use a card, consider putting a small charge — say, $5/month — and automating it each month. In this way, you ensure your card is active and maintains your credit history.

Notes on keeping your accounts open:

  • For nerdy people (aka half my readers), here’s the math of your credit utilization score — plus a little-known caveat: “If you close an account but pay off enough debt to keep your credit utilization score the same,” says Craig Watts of FICO, “your score won’t be affected.” (Most people don’t know this.) For example, if you carry $1,000 debt on two credit cards with $2,500 credit limits each, your credit utilization rate is 20% ($1,000 debt / $5,000 total credit available). If you close one of the cards, suddenly your credit utilization rate jumps to 40% ($1,000 / $2,500). But if you paid off $500 in debt, your utilization rate would be 20% ($500 / $2,500) and your score would not change.
  • If you’re applying for a major loan— for a car, home, or education—don’t close any accounts within six months of filing the loan application. You want as much credit as possible when you apply. (However, if you know that an open account will entice you to spend, and you want to close your credit card to prevent that, you should do it. You may take a slight hit on your credit score, but over time, it will recover—and that’s better than overspending.)

Bonus! Raising your credit score if you DON’T have CC debt

I’m serious about this warning: This tip is only for people who have no credit card debt and pay their bills in full each month. It’s not for anyone else.

It involves getting more credit to improve your credit utilization rate, which is simply how much you owe divided by your available credit. As I mentioned, this basically makes up 30 percent of your credit score. For example, if you owe $4,000 and have $4,000 in total available credit, your ratio is 100% (4,000 / 4,000 x 100), which is bad. If, however, you owe only $1,000 but have $4,000 in available credit, your credit utilization rate is a much better 25% ($1,000 / $4,000 x 100). Lower is preferred because lenders don’t want you regularly spending all the money you have available through credit—it’s too likely that you’ll default and not pay them anything.

To improve your credit utilization rate, you have two choices: Stop carrying so much debt on your credit cards (even if you pay it off each month) or increase your total available credit. Because we’ve already established that if you’re doing this, you’re debt-free, all that remains for you to do is to increase your available credit.

Here’s how: Call up your card company and ask for a credit increase.

You: “Hi, I’d like to request a credit increase. I currently have five thousand dollars available and I’d like ten thousand.”

Credit card rep: “Why are you requesting a credit increase?”

You: “I’ve been paying my bill in full for the last eighteen months and I have some upcoming purchases. I’d like a credit limit of ten thousand dollars. Can you approve my request?”

Credit card rep: “Sure. I’ve put in a request for this increase. It should be activated in about seven days.”

I request a credit-limit increase every six to twelve months, like clockwork. Some people find romance in sending flowers to their significant others. I find it in talking to Delores, my friendly credit card rep, every 6 months.

Remember, 30 percent of your credit score is represented by your credit utilization rate. To improve it, the first thing you should do is pay off your debt. If you’ve already paid off your debt, only then should you try to increase your available credit.

3 things to remember when improving your credit score

  1. Improving your credit score is one of the top 10 financial Big Wins you can have. While others are scrounging around and worrying about ordering a medium Diet Coke, you can focus on something that will pay off with tens of thousands of dollars when you make the large purchases that we’ll all make in our lives.
  2. Dumb people like to do everything (e.g., balance transfers) EXCEPT doing what really matters: Automating, Paying That Goddamn Debt Off, and Keeping Old Accounts Open. Stay focused on these 3 steps and your score will improve over time.
  3. Improving your credit scores are a marathon, not a sprint. Give it a few months before checking. To check your credit score right now, check out myfico.com.

Hope this helps. If you want to get the entire system I use to automatically manage my money, you can pick up a copy of my book. You can also learn more about my favorite credit card.

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191 Comments

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  1. How do cards like American Express (no preset spending limit) factor into the equation?

    • Typically the highest amount you have ever charge on your card will be picked up as for the “Credit Limit” on that card (much like a loan). So if you charge $500 (and only $500) each month it will show on your report as though you are maxed out every month. So if you have a big spending month you can put everything on the card to increase the reported “Limit” and then in the future your utilization will appear to be lower.

  2. I think that many other financial advisors DO actually advocate for building or improving credit score and paying off credit card debt. It’s not only lattes and frugality :)

    This is the easy stuff, but good to throw it out every so often for the next gen.

    • I appreciate Ramit telling us how to do that; I haven’t seen these recommendations in one place before for what improves a credit score. Thanks!

  3. Does anybody have a comparable free credit score checking solution for people not in the United States? Specifically Canada.

    I’ve been looking into this and it seems mythical – immediate, online credit scores from TransUnion or Equifax cost a fee, although you can apparently get one for free *somehow*.

  4. Jared – I think you are asking about charge cards. That’s an interesting question as there is no set credit line limit.

    I opened up a $15k credit card last month and boosted my credit score by 50 points. I put a few charges on it, but just opening up a new credit card lowers your credit to debt ratio (utilization rate). We we also aggressively paying down our debt (we were at $43k, now $25k in 9 months) which also improves your score for the long-term.

  5. This is good, I’m going to call my credit card company and ask them to boost me to $15,000 from $7,500 since I’ve never had a late payment in 6 years and always pay in full.

    I would add to check with the credit card to verify how they report your credit to debt ratio. I heard a rumor that with some cards they will report your credit limit as the same as what you spent, even with a limit of say $10,000 and only used $1000. I never verified it since it didn’t relate to my Mastercard.

    • That rumor can happen, if all of the lines on the transmittal to the credit bureaus are not filled out, or are filled out incorrectly. In the case where it is missing, the bureau just assumes the amount spent is at least the limit (same as American Express is typically handled).

      I’ve even seen where the limit was correct for one bureau, but missing on another. That issue is usually a reasonably easy fix via dispute through the credit bureau that is misreporting.

    • For some reason, on my credit report, my Chase Freedom card always shows a $0 credit limit even though my credit limit is something like $11,000.

      One time I called Chase to have them fix it, and got a lengthy letter back to the effect of “its revolving credit so there’s not a credit limit” or something retarded along those lines. I’m sure they’d gladly charge a fee if I happened to go over this ‘non-existent’ credit limit though.

      I haven’t called back to try to get it worked out though and wasn’t sure how it affected my credit score.

      Anyone else have this issue?

  6. What recommendations would you have to someone who has little or no credit history at all?

    • Ron–

      You need to show the credit companies that you are willing to play their game. Open a credit card, if you don’t have one already, and use Ramit’s point #3. Put something on it every month and pay it off every month. My sister puts her rent on hers and has an automatic payment. No fees, and she’s still building her credit history.

      It takes time to build a credit history. There’s no way to speed it up, so start soon.

    • You can “speed up” the process by having yourself added to someone else’s credit card account as an authorized user. Some credit card companies will then report that person’s history, good or bad, on your report.

    • Go get a Macy’s card. They will approve anyone for $100 credit. You can also try AmEx or Discover. Unlike Visa or MasterCard, they handle all their own financial risk. AmEx or Discover will actually review your history carefully versus some automated online BS that most of the other banks do.

  7. Does having credit cards open that you don’t regularly use negatively affect your credit?

    Also, does the hit to your credit score when you close a credit card come only from the hit to your debt utilization ratio? If I open a new card and then close an old one with an annual fee, does my score stay relatively the same?

    • Not using a card doesn’t hurt your score, but you want to regularly put a small charge on unused cards because banks will often close inactive accounts.

      The graph above shows that 15% of your credit score is determined by the average length of your credit accounts. In addition to hurting your debt utilization ratio, closing an account also reduces the average age of your accounts, making closing accounts a double whammy.

  8. Wow I love how this worked out. The same day I release my guide on credit you have a similar post go up.

    I always stress to friends not to close any accounts prior to applying for a mortgage because the negative bump will hurt them. I was actually working with a friend (who asked me for advice, not me preaching) on buying a property.

    His credit score sucks, his salary is okay, and he’s 30. I suggested that he took a year to pay down his debt, improve his credit score, and save more money for a down payment. He was upset because he experienced the intoxicating feeling of telling everyone he knows about how he plans on buying a home this month.

    As you said, it is a marathon!

  9. Don’t forget that your credit history impacts your ability to be hired in certain industries, so that is another reason to be as responsible as you can be.

    Also, Ramit, didn’t I make myself clear what would happen if I ever saw “latte” in a post… :)

    Ron, my advice would be to get a credit card, even a dept store card, and pay on time. That’s how you build credit. The next would be a car or mortgage loan…but another viewpoint is what Dave Ramsey suggests: you only need a credit score if you have debt or need to have debt! In other words, It’s ok (and yes, liberating!) to be debt free and then who cares what your score is!. Unfortunately, most of us are unable to live that way unless you’ve busted tail to pay off your mortgage early, which isn’t always the wisest use of resources, esp. in our current economic environment.

  10. Ramit – great post. I’m a long-time reader and fan of your work, and have personally benefited tremendously from taking your advice, both on the blog and the book. From CC to bank accounts, to investments, when friends ask where I learned it all I point to you.

    I want to add something to this regarding Capital One. I was offered a “starter” card from Capital One for people w/ poor credit and had been paying it off in full every month for over a year while they continuously refused to raise my limit and instead kept offering me more cards. Finally, I decided to leave a small balance each month ($15-30) and let them make some money off me for a bit, about 4-5 months. Now I check my account and w/o notice my limit was doubled. Correlation is not necessarily causation, but something to consider as banks tighten their purse strings.

    Anyways, thanks always for your guidance.

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