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Time to attack credit card debts

Question: I received a large bonus, and I'm going to use it all to pay down credit card debt. I have many cards. They all have about the same outstanding balances and about the same interest rates. At one time, most of the cards were "maxed out," which was bad for my credit score. 

My bonus won't pay off everything, but I want to improve my credit score as much as possible. Should I pay off a couple of cards entirely, or should I make larger-than-usual payments to all of them, bringing down the outstanding balances substantially below the credit limits? Thanks. Henry, Chicago, IL 

Answer: Good for you. In circumstances such as yours (and keeping your credit score in mind), what I would do is look at the outstanding balance on each card and the credit limit. I'd focus on paying down the ones where the balance and the credit limit are close. You'll want the ratio at 30 percent and (preferably) less on all your cards.  

After that, since the rates are similar, the best approach probably reflects more psychology than mathematics. You might enjoy a sense of reward if you eliminate the debt on one card and then move to the next. Alternatively, you might feel better seeing the debt levels come down across the board. I'm agnostic. Whatever works is best. 

However, the real issue is, once you've gotten rid of the debt, you don't want it to balloon up on you again. The really important question to answer is how you will avoid running up credit card debt in the months and years ahead? I've seen it happen all too often -- including to myself -- that people take a bonus, an extra payment or a savings windfall and eliminate their debt -- only to watch the balance start growing again. It's a bad financial roller coaster to get on.  

The trick is to come up with a spending plan and budgeting habits that will keep you out of credit card debt. This is the key to your credit card strategy, far more important than whether you attack all the cards at once or go after the credit cards one at a time (after you've brought down the ratio between the balance and credit limit). 

I'd also consider getting rid of some cards once you've gone through the debt elimination process. Now, some very savvy financial advisers believe closing credit card accounts is a mistake. It will negatively impact your credit score for awhile. They're right. 

Here's where I disagree: I don't think it's financially sensible to have more credit cards than you need for personal use (and, often, for business). Sometimes, it pays to clean out the financial clutter -- and that includes credit cards. What really matters to your credit score over time is paying the bill on time, month after month, while keeping the amount you borrow low. Preferably, you don't carry a balance. Pay the bill off in full every month. As long as you stick to that discipline, your credit score will be fine over time.  

There is an issue of timing. If there's a major purchase in your immediate future -- say, buying a home or a car -- I would pay off the credit card debts but otherwise leave the accounts alone. Once the major purchase is completed, I'd think about getting rid of the credit cards you no longer want to use. 

Again, the key is maintaining good money habits.

About the author

Chris Farrell is the economics editor of Marketplace Money.
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You never said why you wanted to improve your credit score. If you are not looking for new credit (another card, mortgage, car loan, etc), your score is not important.

Dave Ramsey (http://www.daveramsey.com/new/baby-steps/) says to pay off your smallest debt first so you have a psychological edge. Bean counters will say pay off the credit card with the highest interest first while making minimum payments on the rest.

Chris F. makes a good point about changing your behavior and living on less than you make. Speaking personally, once my wife and I got on a budget, the feelings were very similar to grieving. Not feeling like you could spend on whatever you wanted, eating out whenever you wanted, etc. That feeling of loss is eventually replaced with excitement as you chip away at your debt. It is in your best interest to not pay interest when possible and give a purpose to your money that you have total control over, not some bank you have to pay every month.

Good luck!

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