When you are planning to apply for a loan, raising your credit score can make the difference between having your application approved and rejected, in addition to affecting what interest rate you receive. Because part of your credit score considers how much of your available credit you use, having more available credit can boost this portion of your score. However, the effect of a new credit card can hurt you in the short term.
Credit Utilization
Approximately 30 percent of your credit score is based on the amounts you owe on all of your accounts. One of the major factors in this area is your credit utilization, which is the ratio of your credit card balances to your credit card limits. Each credit card has a separate utilization percent, and you also have an overall utilization across all credit cards. The lower these numbers, the better. CNNMoney recommends utilization of 20 percent or less for the best credit score.
Changing Your Utilization
One way to change your credit utilization is to get a new credit card. This card will start out with a credit line and no balance, giving you zero percent utilization on that card. In addition, the card will lower your overall utilization. For example, if you have one credit card that has a balance of $1,000 and a credit limit of $1,500, your utilization is 67 percent, which is probably hurting your score. If you get a new credit card with a limit of $4,000, your overall utilization suddenly drops to 18 percent, which can help the portion of your score that considers credit utilization.
Effects of New Credit
Approximately 10 percent of your credit score is based on the new credit on your credit report. Therefore, getting a new credit card will cause your credit score to drop in this area. The credit inquiry, which is when the lender checks your credit score, should only take five points or less off your score. However, having a very new account on your report will hurt more, especially if you don't have many other accounts to even out the effect.
Bottom Line
The FICO website says that opening new credit cards just to increase your available credit could actually harm your credit score. Therefore, if you do not need the new credit card and are trying just to improve your credit score in the short term, don't rely on it to have a positive impact. Instead, focus more on other methods, such as paying down debt you already have. However, if you are looking for a long-term solution, CNNMoney advises that opening a credit card and not using that available credit can help you in the long run.
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