Doesn’t it Hurt my Credit?

Often our readers ask the question that many of you have asked yourselves as you’ve seen us write about this process of applying for credit cards to obtain hundreds of thousands of miles and points… “Doesn’t applying for these cards hurt your credit?”

The short answer is: not necessarily.  Your FICO credit score is composed of ratings given in five different categories. The number of credit cards you have and apply for really only factor into two of those categories: Length of credit history and New credit.  Those two pieces make up only 25% of your overall score.

You can minimize the effect of any detrimental recent inquiries and a lower overall average length of credit history by maximizing the other, more important factors.

The pie graph below shows the weight that each of the categories carries on your overall score. For example, it would be much worse to be late on a payment, as it comprises 35% of your overall score, or to carry a balance on your card, which accounts for 30%.  If you always make your payments on time, and in full, 65% of your credit score will be impeccable.

The two categories, in which applying for a new card could negatively affect you, are “New credit (inquiries)” and “Length of credit history.”  Let’s talk about how to minimize the effect on those categories while still amassing an arsenal of frequent flyer miles and points through credit card bonuses.

Length of Credit History

If you are new to the world of credit you want to tiptoe around this subject.  That is why we suggest that you get at least one “staple card” that you plan on keeping for a long time – a card that has a minimal annual fee, an annual fee that gets accompanied by an annual bonus, or no fee at all. We really like the Starwood Preferred Guest® Credit Card from American Express Card as a staple card. You’ll want to have at least one line well-established for some time before applying  for many cards with big bonuses. It can look very risky to a creditor if someone is opening a lot of lines of credit without first proving that they will actually be a faithful payer.

If you have already had credit cards, a mortgage, car loans, and other forms of credit that have been established for several years, then a few new accounts is not nearly going to seem as risky to the credit card companies.  Your score will be more resilient to inquiries.

Keep open the cards and the lines that you’ve had for a long time as it helps you increase your average credit history length.  Let’s just say that you’ve had your mortgage for 10 years, a car loan for  years, and a credit card for 10 years then your average length of credit history is 7.67 years.

This category comprises 15% of your overall score.  This is a relatively small portion, but you want to do everything possible to ensure that this piece remains strong despite adding accounts that you’ll likely cancel before the annual fee comes due. On this note, we’ll also remind you to keep your cards open at least for the first 11 months.  Most cards charge an annual fee, but it is generally waived for the first year.  I would recommend that you keep the card at least until the annual fee is due, and then cancel.  Many times when you attempt to cancel a card, the customer service reps will offer to waive the fee or offer another retention bonus if you’ll keep it open.  If you get that invitation and it’s a good deal, take it.  You’ll extend that card’s average length by another year and help your score.

New Credit

This category comprises only 10% of your overall score.  Some estimates say that each credit inquiry takes 3-5 points off of your score. This will vary greatly depending on your history, but generally it does not have a major impact.

Remember that credit scores range from 300-850.  850 is the highest possible score and anything under 500 is horrible.   You want your credit score to be above 700, and preferably over 730.  Anything over 730 is widely considered “excellent.”  There is no differentiation for most loan rates and other credit determinations for anything over 730.  What that means is that you have all kinds of room between 730 and 800 to sacrifice a few points here and there in exchange for some massive travel bonuses.

The impact of these credit inquiries becomes even less important when you consider that there are actually three credit bureaus keeping your credit score, and card issuers don’t always make an inquiry with each of them – most often they only draw from one.  Keep track of all inquires that are getting reported on your credit report with a service like www.CreditKarma.com.

For example, I applied for the American Airlines Citi Visa card in September of 2010.  They made an inquiry with Equifax to check my score. Equifax, then, is the only one of the three agencies that recorded the inquiry in my score.  Transunion and Experian have no knowledge of it, but there are inquiries that each of them have that Equifax doesn’t.  I might apply for 9 cards a year and have no more than 4 recent inquires with any one credit agency at any given time.

Furthermore, “new credit” inquiries fall off every two years.  So I get a clean slate with each agency every two years – a slate which of course I instantly dirty with a round of new applications and travel bonuses that will help me see the world the “free-way.”  At times, we have even done “App-o-ramas” – applying for as many as 5 cards in one day and obtaining more than 300,000 miles and points at a time.

Could More Cards Actually Help my Score?

In the past two years, between my wife and I, we’ve applied for and received bonuses on 23 different credit accounts.  When we began, my credit score was 767.  When I recently had my score checked, it was 794.  One factor is that I drastically increased the dollar value of my available credit, while adding no debt.  Also, I have more lines that demonstrate a flawless payment history.  Those are the pieces that truly matter.

Am I saying this will be the case for you? Again, not necessarily, but it has been for me.  I fully anticipate that over time I’ll draw that down with more inquiries, but I’ll never ever compromise the 730 level.

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I want to reiterate that we are not offering you financial advice on this site.  We’re offering travel advice.  While we love to see you embrace the idea and see the world the “free-way,” we’d never want to see you hurt your credit or your financial standing.

If you have balances on cards, this is not for you.  I’ve never paid a penny in credit card interest, and we don’t want you to, either.  If you can’t responsibly make every payment early or on time, this is not for you.  Please read our post on Before you Apply and if you feel comfortable, start wanderlusting with us.

Our “Loop Posts” are a great place to get started thinking about what all these miles and points can do for you.