Full credit card repayment

If you happen to get unexpected financial luck, you may decide to pay off all your credit cards.

This will reduce your credit usage to zero and give you access to 100 percent of your available credit and also improve your FICO score since usage is 30 percent of it. But paying off your cards in full can put you out of business, so you can spend some of that money and use it to make a long-term financial plan.

Here are a few things to consider:

Does balancing your credit history help?

You may have heard that you should have a small balance on your cards to help you score points, but this is simply not true. The FICO algorithm will not penalize you for having no balance on your cards. Not having a balance or paying off one in full is normal with an account.

In the same vein, if you simply reduce your account balance to around 20 percent or less, you will see an increase in your credit score. You can then try to pay off the remaining amount within the next six to nine months. If you don’t plan to fully pay off your cards, you may be able to hold the balance for longer than you need to.

Is it better to pay in full or carry a small balance?

Consumers with excellent credit scores almost universally have credit utilization ratios in the single digits. By simply continuing to pay slightly more than the minimum on your cards, you will be paying more in interest payments and will not have much of an immediate impact on your account.

A more important question might be: what happens after you pay off your cards? See how much you can reduce your balances by using half of your windfall profits. If you can get your balance below 15 percent of your lines of credit, stop there and use the other half to create an emergency fund.

Without a reserve fund, the next big expense could result in you using your cards again for payments and then carrying a large monthly balance. It’s expensive and bad for your bill. At 15 percent or less, your balance won’t hurt your account and you’ll have a cash cushion for emergencies.

Estimate your expenses and income so you have an idea of ​​what comes and goes each month. Put something in savings—even a few dollars per billing period, if that’s all you can do. Whether your windfall is a bonus, tax refund, raise, or inheritance, set aside half. In no time, you will have an airbag and money to fund your goals and feel financially secure.

When Carrying a Balance Can Hurt Your Account

One good reason not to keep an account balance is to avoid charging credit card interest. But some cards offer low or even zero starting interest rates for a set period of time, usually 12 to 18 months. Having a balance on such a card can make good financial sense.

But it is important to be prepared for the unexpected. If something unforeseen happens, like a medical emergency or job loss, you could be stuck with a large balance that you can’t pay and end up late on payments. The usage rate will remain, so be prepared for it to affect your bill.

When should you pay your credit card bill

A history of timely payments is 3 percent of your FICO score. There are a number of theories regarding the best way to pay a credit card bill.

One of them is to make several payments within a month. Another is to immediately pay for large purchases. Both options are valid, but remember that no matter how you choose to make payments, the most important thing is to make sure payments are received in full by the due date, every time.

If you plan to apply for a new loan within a few months, remember that a very large purchase can quickly impact your score by increasing your credit usage. In this case, a reasonable solution may be to pay off this purchase immediately. After all, you will have money, right?

bottom line

The lower your credit card balance, the less interest you pay and the higher your credit score will be. But instead of throwing a one-time windfall on your credit card debt, first come up with a plan to reduce those balances.

The best way to maintain a high credit score is to pay your bills on time and in full. And that may require setting up a rainy day fund so you can keep debt at bay and keep building up your credit.

Steve Bucci has been helping people decipher and solve personal finance problems for over 20 years. He is the author of The Dummies’ Credit Management Kit, The Dummies’ Credit Repair Kit, Barnes and Noble Debt Management, co-author of The Dummies’ All-In-One Money Management Kit, and The Credit Repair Kit. For Dummies (Australia). Steve is an experienced expert witness in identity theft, credit scoring and debt cases. He has been a speaker at the FICO InterACT Global Conference, the Federal Reserve and the International Credit Symposium at the University of Cambridge in the UK.