Let’s Talk Credit: What To Do When You Have Credit Card Debt & Bad Credit

Our credit scores are often taken for granted. We are not taught about credit or our credit scores in school and to me that sets a lot of us up to fail and/or struggle as adults. Your credit score is almost as important than how much money you have in the bank because having a great credit score will give you the ability to be approved for loans such as home mortgages, car loans, credit cards, etc. Imagine having $100,000 in the bank but your credit score is 580 but you want to buy a $500,000 home so you have to apply for a mortgage loan, I can almost guarantee that you won’t be approved for that mortgage loan because of your bad credit or they’ll make you pay a ridiculously high interest rate.

I talked about an introduction to credit in a prior post and it’s important to get a better understanding of what credit and a credit score is before moving forward with this post. To summarize, your credit score is a numerical score that determines how worthy you are of borrowing money in the form of a loan or opening a line of credit (such as credit cards). Your credit score is determined by a number of factors that will help raise or lower your score such as missed payments, how often you apply for credit, credit history (the older the better), and more. So what exactly happens when you have made multiple mistakes such as stopped paying your credit cards? Your score drops and it can drop quick! We’re here to talk about a couple of ways to improve your credit score, how to maintain your credit score if you suffer from bad credit and ways to pay off your credit card debt!

Organize Your Credit Card Bills & Start Paying Them Off

This will probably be the most crucial and extensive aspect of fixing your credit and paying off credit card debt because it will be the most impactful. One of my first posts was an introduction to tracking your spending and the same principles apply to fixing your credit. If you have racked up massive amounts of credit card debt, don’t you want to know where the expenses came from rather than just paying the balance? What if you forgot to cancel that subscription after the free trial ended and the monthly fee is just buried in your credit card statement? Things like this do happen! We forgot we had a Nintendo subscription so the bear could play Animal Crossing and we forgot to cancel it out! As a matter fact…I should do that right now before I forget!!! Anyway, we are prone to forgetting what we pay for each month. My dad used to joke around when I was under his credit card he’d say “I just close my eyes and press pay bill.” Obviously a joke, he’s the one that taught me how to track my expenses! My point is, once you look over your credit card statements and your expenses, you’ll get an idea of where your money is going. You could have spreadsheet, a piece of paper, a journal or anything! It’s imperative you track your expenses. Now once you have that organized, let’s dig into actually paying off the credit cards.

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It’s important not to be too hard on yourself if you’ve gotten yourself into massive amounts of debt. You’re not alone and you’re definitely not the first person to ever have credit card debt. It’s important to be aware and to accept the mistakes you’ve made in the past and that it’s time to take action. The reason why I emphasize on organizing and tracking your expenses is so that you’ll be able to tackle the debt without incurring more unnecessary debt along the way. You’ll just be repeat the cycle and fall into an endless loophole of debt! There are different methods to paying off your credit card debt that were used by the famous and one of the biggest names in Personal Finance, Dave Ramsey. He has famously preached methods like the Debt Snowball Method or the Debt Avalanche, two effective ways to pay off debt, depending on the type of person you are!

Snowball Method

Pay the minimum on all debts and then focus on the small balances first. For example:

Credit Card 1Credit Card 2Credit Card 3Credit Card 4
Balance$1,200$800$1,600$2,000
Minimum Payment$35.00$35.00$35.00$35.00

Under the snowball method, how would the credit cards be paid from first to last? While committing to paying all the minimum payments so we don’t further destroy our credit, we start off by paying off Credit Card 2, then Credit Card 1, then Credit Card 3 and then last would be Credit Card 4. This is the snowball method in action, we start off by tackling the smallest debt amount and work our way to the top. So whatever extra cash you have left over after paying all the minimum payments, throw it into the smallest debt amount! In my opinion, this would give you the best mental satisfaction and a small victory every time you pay off the smallest balance. It also helps you build the confidence to pay off the other credit cards. Treat it like a game! Obviously, there are draw backs. Since you are paying the smallest balance first, your higher balances will be accruing interest and you may end up paying more in the long run. However, the confidence build up by seeing a credit card balance at zero and working your way up can be worth the extra interest payments!

Debt Avalanche

The other method is the debt avalanche which is a little different from the snowball method. You would think with the word avalanche that something big is coming down, you bet it is and that’s your debt that’s coming down! Using the same balances a difference with the debt avalanche is that interest rates come in to play.

Credit Card 1Credit Card 2Credit Card 3Credit Card 4
Balance$1,200$800$1,600$2,000
Minimum Payment$35.00$35.00$35.00$35.00
Interest Rate (Annually)15%8%20%1%

Same rules apply, pay off all the minimum payments to ensure your credit doesn’t collapse. Now which card we do pay off first? Any guesses? Credit Card 3! The order would be, Credit Card 3, Credit Card 1, Credit Card 2 and then Credit Card 4. We start off with Credit Card 3 because even though the credit card does not have the highest balance, it carries the highest interest rate @ 20%! That’ll add in an extra $320.00 in interest payments per year! Credit Card 4 only charges $200 worth of interest per year, which is $120 less! The point of the debt avalanche is to knock off the highest interest rate debt because over time they’ll accrue the most interest. So we start off the with the highest interest rate and work our ways down until the debt is paid off! Be aware, this could discourage you if the credit card has racked up interest over time. Just remember, if Credit Cards 3 & 4 have not been paid off, the balance for Credit Credit 3 will be higher than Credit Card 4 in two years.

Of course, you can customized how you pay your debts how you want. It’s personal finance remember! It’s all about you and how you personally want to handle your debt. I’m just here to give you the tools and some tips, I’m not here to tell you what to do with your money! If you want my opinion on which method is better, it depends! For me, I like tackling higher balances first, I just get a better satisfaction if the biggest and/or highest debts are paid off already!

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So what does paying off your debt have to do with improving your bad credit score? It’ll raise your credit card that’s what it’ll do! Credit scores take into account your revolving credit usage as well. It’s the percentage of the credit lines you are using or that is outstanding. So if you have a total of $100,000 in credit and you used $10,000 worth of debt to pay back, your revolving credit usage is 10%. The lower your usage is, the better it is for your credit score. The lower your credit card debt is and if you can’t pay in full that you are making the minimum payments at least, the better it is for your credit score. Hell, if you can pay off all your credit cards, that’s the best case scenario! If you can, treat your credit cards like cash and pay them off right away!

Don’t Close Out Old Credit Cards

It sounds counter-productive but it’s important. Credit Cards are like wine, they get better with age. Whatever your oldest credit card is, just keep it forever! You don’t even have to use it if there’s no annual fee! Your credit score can be affected if you close out old credit. Lenders/creditors will see you as a more responsible with managing your finances and will use the age of your credit history to determine if you’re worthy of borrowing money. Old credit is good credit. It’ll boost your score up as time goes on. Remember, just like wine it gets better.

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Don’t Ever Miss A Payment

This sounds pretty self explanatory. Just don’t ever miss a payment whether you are paying in full or even if it’s the minimum. Missing a payment will put a dent on your credit score because you’re showing lenders your inability to even pay the minimum on a credit card. Now I get it, times can get tough and they certainly can. If there is no way of paying off your credit card minimum payment, you may have to take the dip in credit score temporarily and save yourself. Paying off debt is important but after you’ve taken care of everything else such as your bills, food, groceries, insurances, etc. If you can’t make the minimum payment because you need to eat, your credit score isn’t going to suffer forever. It can recover over time and you will be okay.

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Refrain From Applying For New Credit Cards

Applying for new credit cards can be tempting. They offer bonus rewards or give you 20% off today’s purchase if you sign up today type of things. However, if you’ve opened up many credit cards in a short amount of time, you can be subject is to what they call a “Hard Pull” on your credit report. That means the lender will have access to a full review of your credit report and will determine if you are eligible for the credit. Now, hard pulls aren’t all that bad but if you have had 6 hard pulls in less than two years, it’ll affect your credit score! I know from experience because my credit score took a 45 point drop from when I opened up my last credit card. I got suckered in by an email and applied because Chase said I was already approved! Didn’t think they would still look at my credit report, which was my 6th hard pull! Anyway the bottom line is don’t apply for credit cards if you don’t need it right away! It will affect your credit if you’ve already been taking out credit cards, applying for loans or getting cable/internet services for the first time.

*Random Fact: I got Verizon Fios Internet last December for the first time ever and they did a hard pull on my credit, what the freak! I didn’t even know they do that!

Do these things and you’ll see your credit score sky rocket into the 750+ scores! The bulk of it is really paying off your credit card debt. You can do any of the three other things I mentioned but if you are carrying a boat load of credit card debt, it will limit you from borrowing and decrease your credit score. If you don’t carry credit card debt, just keep using your credit cards and pay it off. Over time your score will increase! The safest thing to do is treat your credit cards like cash so you can hold yourself accountable. It’s tough, I know. Things don’t always go as planned or as they seem. If you are able to find a way to pay off your credit card debt as quickly as possible, the sooner your credit score will rise.

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