It wasn’t that long ago that I finally started learning about how credit actually worked. Before that, I had pretty much given up hope on having a good credit score, thinking instead that I’d just survive off my wife’s stellar numbers. Eventually I decided to check my scores and see where I stood. Thus began my credit education. Thankfully I didn’t have too much work to do seeing as I had miraculously reached the high 700s without my recognizing it. After that nice surprise and with my newfound financial knowledge I set out to bring that score even higher.
That’s why I was so fascinated when I recently just came across a survey by LendEDU (via USA Today) that sought to test the average Millennials’ knowledge of credit-related terms and functions. Although the sample size for this study — which included 500 people between the ages of 17 and 37 — was relatively small, the mistaken beliefs it highlights are near universal. Heck, I might have even gotten a few of these questions wrong a few years ago. So, with that in mind, here are three Millennial credit misconceptions you should be aware of:
Re: Carrying debt
Let’s start with one of the most popular and most harmful credit myths and one that more than a quarter of Millennials surveyed believed. When asked if it was required that users carry debt in order to accrue credit, 27.6% said “yes.” In reality, there is no such requirement and cardholders should pay off their balance in full each month if possible. Not only will paying in full allow you to avoid interest charges but will also serve to demonstrate your creditworthiness — the complete opposite of what this long-standing myth would imply.
Re: Credit utilization and maxing our your cards
While the “carrying debt” myth is bad, it turns out there are even more misconceptions surrounding credit utilization. In fact, when presented with a multiple choice question about what activities would help increase your credit score, a mere 17% of respondents correctly singled out “lowering your credit utilization” as the right answer. Furthermore 43% believed that increasing your utilization would help and, even worse, 36% thought that maxing out your credit card would improve your score as long as you paid on time.
With answers like that, it’s clear that many Millennials don’t quite understand credit utilization. This is a shame seeing as this is the second largest factor in credit score calculations behind payment history. Anyway, contrary to apparently popular belief, maxing out your credit cards can do damage to your credit score, even if you do pay on time and in full. Best practices actually indicate you should keep your credit utilization rate below 30%. This means that, on a credit card with a $10,000 limit, you should try not to keep your total balance below $3,000. Of course, the lower you can get your utilization rate, the better.
Re: Hard inquiries vs. soft inquiries
Knowing the difference between hard inquiries and soft ones may not be as dire as the other two misconceptions we’ve looked at so far, but it is still an important topic for a couple of reasons. First, the difference between the two types of inquiries is that hard pulls will affect your credit score while soft pulls will not. For example, using educational credit score sites like Credit Karma will have no direct impact on your scores. However, if you apply for a new credit card or a loan, that will most likely trigger a hard pull of your credit, which will then be recorded on your credit report and calculated into your credit score. Incidentally one-third of Millennials surveyed thought the two types of inquiries were synonymous while another 9.6% had the definitions reversed.
To be fair, the American credit system can be a bit confusing at times. Still this LendEDU survey shows that many of us Millennials have some major misconceptions about the whole thing. As a result you could be overspending or actively hurting your credit if you fall for these falsehoods. Hopefully with a growing number of personal finance apps and sites hitting the market and Millennial-minded personal finance blogs popping up (ahem), our generation can help eliminate these credit myths once and for all.