Watch out for these 7 mistakes when applying for a credit card
With credit card offers and ads coming at you in stores, in the mail and on TV, it's easy to sign up for one - or two or three. But should you? No matter how commonplace credit cards -- and their ads -- are, carefully consider why you're choosing a particular card. Do your homework before applying for a new piece of plastic.
Watch out for these seven mistakes in particular:
for the first credit card you come across
When you're in search of a new credit card, it's easy to sign up for the first one you come across. Choose the wrong card and you could end up with a piece of plastic collecting dust in your wallet. Without comparing it to other credit cards, you could end up signing up for a credit card with low rewards or a high interest rate.
There are lots of ways to compare credit cards, but here are things to consider:
- Does the card have an annual fee, and is it in your budget?
- If the card offers rewards, will you get that cash back or those miles for purchases you already make?
- Are there prerequisites with the card? Do you need to have a minimum income or a standing relationship with a particular bank to qualify?
"Prior to submitting any credit application, ensure that you understand all of the features of the card, by reading the material in full, or speaking to a representative at the card company," Brenda Hiscock, certified financial planner at Objective Financial Partners, said in an emailed response to questions.
2. Signing up only for the sign-up bonus
Many rewards credit cards offer sign-up bonuses: a few thousand points or miles just for being accepted for the card or for spending a certain amount within the first few months.
While sign-up bonuses can be a great way to earn a lot of rewards, make sure you'll earn that bonus without extra spending. You don't want to go into debt just to get the bonus points, miles or cash back.
Here are two ways sign-up bonuses can get you into trouble:
First, if you force yourself to spend, say, $3,000 in three months when you normally would spend only half that, you could end up with a $1,500 balance that is costing you interest and jacking up your credit utilization ratio (the amount of credit you have compared to how much you use).
Second, if you don't spend the required amount within the designated period, you might end up paying a high annual fee for a card that earns you only an average amount of points -- perhaps no more than a rewards card already in your wallet.
Something else to consider: "When signing up for a card that offers a sign-up bonus, for example air miles, there is typically an annual fee in order to have this benefit," Hiscock said.
And don't try to game the system, signing up for a bunch of cards with sign-up bonuses. Applying for too many cards within a short time is a red flag to lenders.
Signing up for rewards you don't need
Ask yourself if the potential rewards card really suits your needs and lifestyle. If you never travel, why collect airline miles? If you already have a cashback card, why sign up for another and split your spending between the two, which will take longer for you to earn enough points to redeem?
Again, you should also consider if you will ever spend enough on the card to make the points worthwhile.
"Be mindful that it takes a fair number of air miles and points to get that prize," Gary Tymoschuk, vice president of operations for Credit Counselling Society, has said previously to Canada.CreditCards.com. "You really have to ask yourself if it's in your best interest in terms of getting the credit card."
A yellow (or red) flag when considering a rewards card: If you are already having trouble staying on top of your debt, you won't be earning points anyway, Tymoschuk said.
for a ton of credit cards
While it often makes sense to have a backup credit card, applying for too many credit cards in a short period can lower your credit score.
"This can affect your ability to be approved for mortgages, or loans for ‘big ticket' items, such as cars and boats, as creditors are wary of this behaviour," said Hiscock.
Too many card applications make you look desperate for funds, and creditors have no way of knowing what you will do with those credit lines if and when you get them. If you already have a handful of other cards open and are applying for more, potential lenders will look at your income and other debt obligations and may determine that you wouldn't be able to pay your bill.
Finally, having several credit cards increases the chance of fraud -- and even forgetting to pay your bills. It can be a chore to keep up with all those card statements, and if you aren't using all of those cards routinely, you could end up paying inactivity fees.
to understand the credit card application process
When applying for a credit card, it helps to understand the credit card application process. As mentioned, lenders will look at how many applications you have filed in a short period of time and at your income and other debt obligations.
Lenders also will also look at your repayment behaviour (whether you pay your bills on time or have any missed payments), your credit history (how long you have had credit) and your credit utilization ratio. All of these factors make up your credit score, and the higher your score, the better interest rates you'll get and the higher chance you have of qualifying for the card.
Applying for a card to bridge a gap in funds
"Don't use credit cards as a way to fill in a gap or shortfall of funds," Tymoschuk said.
You need to have a budget based on the amount of money you have coming in, and if you're short, you need to revisit your budget and cut back where you can -- not get a credit card, he said. If you do apply for a card and are already stretching to make ends meet, you may find you'll reach your credit limit quickly and have to add an extra bill payment to account for in your budget.
If you're already tight on your finds, a card can easily lead you into debt. If you make only minimum payments, it could take years to pay off the card. Your credit utilisation ratio will suffer, as well as your credit score, if you miss payments or pay late.
"Once in a blue moon you might make a bigger purchase, but you need a plan to pay it off" in two or three months, Tymoschuk said. Even in that case, he said it's wiser to get a loan, which will likely charge a much lower interest rate than a credit card.
"With a loan, you'll know it will be paid off over a certain period of time," he said.
7. Getting a card as
a ‘treat' for an income raise
A raise or bonus at work is a reason to celebrate, but it is not a reason to apply for a credit card.
If you find yourself with more money on your hands, make a plan for what to do with it, Tymoschuk said.
For instance, if that bump in your budget is due to a salary increase, a better idea would be to readjust your monthly spending based on your new reality. If it's a one-time bonus, make sure your emergency savings is padded and you don't have any other outstanding debt before you splurge.
If you insist on getting a new credit card when the extra cash hits, or if you decide you need a big-ticket item that you'll charge and pay off, it's best to wait until you actually get the money before you get too excited.
"Don't rely on money coming in," Tymoschuk said. "You start spending before it's there, putting it on a credit card figuring it's going to be coming in, but it's a dangerous way to operate. It's better to wait until it's there."
Do your homework
before seeking a credit card
Before applying for a credit card, review your credit report and obtain your credit score. If there are errors on your credit report, take steps to correct them. If your credit score is low, improve it by paying your debt in full and on time (but know that rebuilding a poor score takes time).
Follow all of these steps before you apply for a new card, and you likely will be approved for a new piece of plastic that makes sense for you -- and won't lead you into debt.See related: Common credit advice that may not be right for you, 5 common credit score mistakes
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