5 Credit Card Red Flags to Avoid | Personal finance
Funto Omojola
Choosing the right credit card can be difficult, especially if you have bad credit (FICO scores of 629 or less) or you are completely new to credit cards.
Many cards can help those with limited choices, but some options, including some unsecured credit cards for bad credit – are more expensive and potentially more perilous than others. These “subprime specialty issuer” cards, as they are often called, may be easier to obtain, but they usually come with high rates and unnecessary fees that make them quite expensive to carry.
To end up with the right card in your wallet, it is important to avoid predatory options. Here are five red flags to watch out for.
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1. Excessive fees
An annual fee on a credit card may not be ideal, but it is not necessarily considered excessive. In reality, if you have weak or thin credit or if you’re unbanked, a card with an annual fee may be your best and only option. The annual fee may also be worth paying if the card offers ongoing rewards, perks, or other incentives to offset them.
Still, the annual cost of keeping a card shouldn’t be extravagant. Many vouchers for those with weak or thin credit offer relatively low and manageable annual fees, often $50 or less.
But annual fees aren’t the only costs you can incur. Many so-called fee-collecting cards have fees that can sneak up on consumers who don’t know it. Examples include application fees, activation and processing fees, and monthly maintenance or membership fees. These fees are often unnecessary and avoidable, but they are common on some unsecured cards for bad credit, that is, cards that do not require a security deposit as security.
Before choosing a card, be sure to read its terms and conditions so you know what fees you might face.
2. Exorbitant interest rates
If you don’t carry a balance from month to month, a credit card’s interest rate is irrelevant. you will never owe any interest. But financial hardship and other factors can necessitate debt, which can be convenient but costly.
In November 2020, the average annual percentage rate for cards that paid interest was 16.28%, according to the Federal Reserve. The rate you’ll be charged will depend on your creditworthiness, which tells the card issuer how much risk they’re taking in extending credit to you.
Generally speaking, the lower your credit scores, the higher your APR will be. But some credit cards cater to consumers with mediocre credit rate APRs that are truly sky-high, sometimes as high as 30% or more.
Credit cards that offer low or promotional interest rates generally require good credit (FICO scores of at least 690), but there are options for others that can make maintaining a balance less costly:
- Secured credit cards require you to make a refundable security deposit which will serve as your credit limit and security. They may be easier to obtain because the bank takes less risk on you. Secured cards, especially those that also charge an annual fee, sometimes have lower ongoing APRs.
- Depending on your credit score, you may be able to qualify for a card from a credit union, which may offer lower interest rates than products from major banks. However, to obtain such a card, you will need to join the credit union and there may be membership restrictions.
3. Low credit limits
Some starter credit cards or unsecured cards for bad credit will announce a credit limit range. The limit you qualify for will depend on your creditworthiness, but it’s worth understanding how a low credit limit can get in your way.
For starters, if the card also charges an annual fee, that often means you’ll need to subtract that amount to determine your actual credit limit. For example, if you are approved for a $300 credit limit on a card with a $50 annual fee, your initial credit limit is actually $250 until you pay that fee. Essentially, you are immediately in debt and have lost about 17% of your credit limit before you even use the card for the first time.
A low credit limit can also affect your credit utilization rate, which is an important factor in your credit scores. Credit usage is the amount you owe as a percentage of your available credit. So if you have a credit limit of $1,000 and a balance of $500 on the card, your credit utilization is 50%.
A typical recommendation is to keep your credit utilization below 30%. But in general, the lower this percentage, the better it is for your credit scores.
And finally, if the card earns rewards, a low spending limit means a low limit on the amount of rewards you can accumulate.
Nerd Tip: Some credit cards advertise the possibility of a possible credit limit increase with responsible credit card use.
4. Partial Credit Reports
To get credit, you’ll ideally want a card that falls under the three major credit bureaus – Equifax, Experian, and TransUnion. These bureaus compile credit reports that form the basis of your credit scores.
Cards with incomplete credit reports can be problematic, as you won’t necessarily know which bureau a future lender might get your credit report from.
For example, if a lender pulls reports from TransUnion, but your card only reports to Equifax and Experian, the lender may not be able to see your credit activity.
5. No upgrade path
If you use your secured or starter card responsibly, it can strengthen your credit. At this point, you might be considering switching to a credit card with better terms, richer rewards, or more generous perks. To that end, it’s best if your existing map makes the process easier.
The best credit cards for poor credit – mostly secure cards – usually offer upgrade paths, either automatically (with responsible card use) or on demand. This means that you could potentially qualify for a better card within that issuer’s product family without having to close your existing account. And if your account is in good standing when you upgrade, you’ll get your deposit back.
Maps that don’t offer an upgrade path can still be useful. But in the long run, you’ll be stuck with a product you’ve outgrown, which can be especially expensive if you’re paying an annual fee. Although you can choose to close the card completely, it can negatively impact your credit scores.
The article 5 Credit Card Red Flags to Avoid originally appeared on NerdWallet.