This week I want to talk about a pickle I know a lot of people are in. You’ve got a lot of credit card debt, and you’re maxed on your ability to pay them down.
I have been talking with a client about this. We are getting some old collections off her report that will definitely improve her score, but to get any score over 700, she has to have to have her credit card balances low. 10-30% is usually what it takes. She’s maxed on all of them and trying to get her mortgage refinanced as well as a parent student loan.
She’s in the proverbial chicken and egg. She can’t refinance her mortgage or the student loan until her score is up and she’s not sure how to go about paying her cards off. Her credit lenders won’t increase her available credit and she can’t get a 0% card to transfer her balances to until she pays things down.
Luckily she just started to get some money from freelancing so we talked about what to do with it.
If you’re drowning in credit card debt, you’ve got options. Here’s what it looks like.
1. Find a way to pay them down. This could mean adding whatever you can do the cards, and keep paying that amount across all the cards until they are paid off. It’s called the snow ball method, and you can start with the card with the lowest balance for a quick win or the highest interest rate to get done the fastest.
If you’re maxed out and you use either one of these methods, I recommend asking for credit limit increases once you start paying down the balances. This will help your score significantly, because you will have more available credit compared to the balances you’re carrying. It’s usually not a hard inquiry on your score either, but call your card and ask. Once you start paying them down, you can also usually get approved for a 0% balance transfer. I really like Credit Karma because it recommends cards you are most likely to get approved for, based on one of your credit scores. I also like the nerdsters at Nerd Wallet for good advice here.
None of this is anything new, but I don’t think people consider what adding more available credit or moving to a lower interest rate will do often enough. You can also call your cards and ask for a reduction of interest rate. Remind them you’ve been a good customer and see what they will do.
One thing to keep in mind is that sometimes if you pay off a card that’s been maxed all at once, the credit card company will close your account or lower your limits. This happened to me personally a few years ago when I paid off some credit cards all at once. I got a 10k limit card slashed to 2k with Bank of America.
If you want to keep the cards open and keep the available credit, it’s often better to pay over time. Paying over time shows responsible usage, as opposed to a windfall. If you do get a windfall and want to keep your available credit high, consider breaking it up into four payments to show movement over time.
On that same token, if you don’t report much of a balance to the credit bureaus on your cards, a slash in the limits shouldn’t damage your score for more than a few months, so keep that into consideration if you’re applying for new credit, like a mortgage.
3. Default. I like to think of this like a pre-bankruptcy strategy, but I also think it’s important to talk about so you know what happens if you can’t pay because it reduces the fear. If you’re trying to consider what’s next and looking at bankruptcy, consider this. If you default, you can expect to settle your cards for 30% if you can pay all at once and up to 40% if you have to make payments. Everyone will close your cards. American Express will actually open a card again for you when make all the payments on the reduced amount.
I think most people pay on their cards right up until the moment they can’t pay anymore. If you lose your job or get a divorce or can’t pay, just know this is an option. You usually have up to 2 years after you default before the credit card company will sell your debt to a third party debt collector, but even that isn’t the end of the world. We can easily get collections deleted.
4. Bankruptcy. We’ve had a couple credit reports where we have looked at them and the person isn’t a good candidate for even paying off some of their balances at a huge discount. This usually happens when someone doesn’t have any income or anything in the future that’s going to help them pay down the balances. When you’re drowning, take the life line that’s made available.
If you’ve been through bankruptcy or are considering it, know this. I’ve had clients that have gotten credit cards less than six months after a bankruptcy discharge. You can’t file bankruptcy for another seven years, so the card companies know you will have to pay for at least seven years. The interest rates are high, but if you aren’t carrying a balance, you don’t care. Getting a new credit card can boost your score 100 points. Credit repair can also help get the accounts reporting correctly. Sometimes they don’t show closed. We’ve got a current client who had a bankruptcy discharged in December and Chase bank was still showing her late on account that she had included in her bankruptcy. Getting these accounts reported correctly and getting a new credit card will take her 514 scores up to 680 in about 90 days.
Remember, it’s all about having more positive credit that negative.
It’s a lot of food for thought.