1. Bad advice: You should refinance your house to pay down credit card debt
The last thing you want to do if you’re struggling to pay off your credit card is to put yourself in jeopardy of losing your home as well.
Borrowers typically refinance their home if they want to lower the interest rate on their mortgage, and thus lower their monthly payments.
But when you refinance your home in order to free up money to afford payments on your credit card debt, you’re converting unsecured debt (credit card debt) to secured debt (mortgage), Tayne says.
“Refinancing your home to pay down credit card debt can be a bad idea because secured debt means that if you fail to make payments on the debt, the lender has collateral they can use to satisfy the debt,” she says.
In other words, if you prioritize paying off your credit cards and end up defaulting on your mortgage, you could end losing your home.
Not to mention, there are closing costs and fees associated with a refinance and you could end up paying more for the debt than was necessary.
2. Bad advice: Use balance transfers to “pay off” credit card debt
A balance transfer credit card can let you take advantage of zero interest while paying off your debt, but there are a few caveats to consider before applying for one.
Firstly, your credit score matters. Most balance transfer cards, like the Citi® Double Cash Card, the Citi Simplicity® Card and the U.S. Bank Visa® Platinum Card, require good or excellent credit to qualify. The Aspire Platinum Mastercard® is one that allows people with fair credit to apply, but the introductory 0% APR period is much shorter than those for better qualified candidates (just six months, compared to over a year with other cards).
Even if you do get approved for a balance transfer card with less-than-stellar credit, your credit limit on that new card will be considerably low.
If you have a lower line of credit on your balance transfer card, then there’s a limit to how much you can move over to the new card. And you could end up with a high credit utilization ratio on the new card because you are using up much of your available credit. A high balance on a card, coupled with a low credit limit, means a higher utilization rate overall and that can cause you to have a lower credit score.
But Tayne also emphasizes that you’ll want to review your budget before considering a balance transfer. “If you don’t have the funds in your budget to pay down the debt over the 0% period, you’re merely shifting the debt around and ultimately making the problem worse by delaying it,” Tayne says.
Do your research before applying for a balance transfer card to ensure it’s worth it. A hard inquiry shows up on your credit report each time you apply for a new credit card (which dings your credit temporarily) and some balance transfer cards have high APRs after the intro period ends. Plus, many cards also charge balance transfer fees, so research what is the best fit for you and those with no fees.
3. Bad advice: Borrow from your 401(k) to pay down debt
Withdrawing from your 401(k) early is hardly ever a good idea, even if it seems like your only choice when you are in a financial bind.
Taking money out — with or without a penalty — will only further set back your retirement savings goal.
“If you borrow from your retirement plan to pay down debt, you lose out on earnings, potentially delay your retirement plans and make it more challenging to build the fund, depending on your age and cash flow needs,” Tayne says.
Even in the case of the recent stimulus package, which relieves Americans of the penalty fee when withdrawing from their 401(k), there are still taxes that will be applied when you pay the loan back. “You’ll be using taxed income to do so, meaning you’re paying back more than you borrowed because of taxes,” Tayne says.
4. Bad advice: “To have great credit, all you have to do is make sure to pay at least minimums every month”
While making consistent and on-time payments on your credit card bills each month is a surefire way to build good credit, it’s best to pay your balances off in full if you can.
If you don’t pay your balance in full each month, you’ll get stuck with high APR charges. And those charges grow more each month thanks to compound interest.
To see how compound interest works with your credit card interest rates, take a look at the table below. Using 5-, 10- and 15-year timelines, you can see the affect of a 16.61% interest rate (the average credit card APR by the Federal Reserve’s most recent data) on a $6,194 credit card balance (Americans’ average credit card debt). Assuming that you’re only making the minimum payment, the compounded interest alone adds up to be quite expensive over time — so much that it surpasses your initial balance after 10 years.
| Total credit card balance | Interest accumulated | |
|---|---|---|
| After 10 years | $15,698 | $6,540 |
| After 15 years | $26,355 | $10,657 |
| After 5 years | $9,158 | $2,964 |
| Principal amount | $6,194 | $0 |
Since paying only the minimum on your credit card can put you much further in debt — and increase your utilization rate over time — Tayne advises cardholders to create a budget that allows them to pay their balance off each month and stick to it. Consider 0% APR credit cards, like the Wells Fargo Platinum Card and the Amex EveryDay® Credit Card, to avoid paying interest on any new purchases when you carry a balance for an certain period of time.
“Having good credit is more than making on-time payments and minimum payments,” she says. “Many additional factors go into the scoring models.”
5. Bad advice: “Once you damage your credit score, it cannot be rebuilt”
Your credit score can always improve, it just takes time.
While missed or late payments reported to the credit bureaus will stay on your credit report for seven years, they have less of a negative impact on your credit score with each year that passes. This timing rule is also true for bankruptcy filings and foreclosures that end up on your credit report; as the years progress, their impact lessens.
If you’re looking to recover from damaged credit, know that there is light at the end of the tunnel. Work on paying your bills on time, in full and maintain a low credit utilization rate. You can also get help negotiating your credit card debt by speaking to a local debt-relief lawyer or debt professional. Check with your state attorney general and/or local consumer protection agency for a reputable debt-relief law firm or contact the National Foundation for Credit Counseling or the Association of Independent Consumer Credit Counseling Agencies to see how someone there can help you.
“There is hope and a chance to rebuild poor credit scores,” Tayne says. “Resolving debt through settlement also doesn’t irreparably damage your credit.”
6. Bad advice: “Debit cards can build credit”
Debit and credit cards are two entirely different things. When you use a debit card, the money is withdrawn directly from your checking account. Debit card (and other prepaid card) activity does not get reported to the credit bureaus, it will never end up on your credit report and it has no direct influence on your credit score.
If you’re looking to build credit, a debit card won’t help and in fact using only debit can harm you. Tayne recommends those new to credit start by applying for a secured credit card. Secured cards, such as the Capital One® Secured and the Citi® Secured Mastercard®, are for beginners as they don’t require good credit to qualify. Many require a security deposit up front that acts as your credit limit, but allow you to graduate to an unsecured card once you prove you can handle monthly bill payments on time and in full.
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