When credit card expert Jason Steele reached out to me about a post on credit card sign-up bonuses, I knew he’d be able to answer the questions I get all the time — namely, how does adding a new card to your wallet impact your credit score? Read below for a clear-cut, easy-to-understand explanation of how this process works.
Big credit card sign-up bonuses of miles, points, or cash back seem too good to be true, but are they? For example, Chase is currently offering 50,000 British Airways miles as a sign up bonus. A quick search at CardHub.com returns similar offers for customers with excellent credit. With such valuable points and miles hanging in the balance, credit card users need to know if their credit score will suffer if they accept one of these offers.
How do sign-up bonuses work? Even during the depths of the great recession, when the banks were being bailed by the government, they were still making healthy profits from their credit card businesses. Credit card users are so valuable, that card issuers are willing to spend hundreds of dollars to acquire a new customer. The banks offer that money to the cash-poor airline industry in exchange for frequent flier miles, which they purchase by the billions for a fraction of what some travelers pay to buy miles.
Those miles are then offered to new credit card applicants, just for the opportunity to earn their business. Frequently, cardholders will have to meet a minimum spending requirement in order to qualify for the sign up bonus, which generates merchant fees for the banks as cardholders get in the habit of using the card – and possibly get into debt as well.
What happens to your credit score when you apply for a new card? The first thing that happens is that the bank pulls a copy of your credit report, a process often called a “hard pull.” One or two hard pulls by themselves will have a negligible effect on your credit score, but a large number of recent inquiries will cause a small, significant, but temporary drop in your score.
Once approved for a new card, your credit report will reflect an increased credit history and larger total line of credit extended. For a given amount of debt, a larger amount of credit extended helps your credit score by decreasing your debt to credit ratio. So for most people, receiving one or two new credit cards will raise their credit score, not lower it.
Some words of caution. Those who would use a new credit card to spend more or incur debt should not apply for one. Anyone who carries a balance on their cards should focus on paying it off, not chasing rewards. And beware of annual fees, which are often tacked on to cards with high rewards potential.
In addition, I find that most people make the mistake of over-thinking their credit scores. By worrying too much about minor factors such as recent inquiries and debt to credit ratios, they can lose sight of the big issues that determine the bulk of their credit score. Pay all of your bills on time and carry very little debt, and it is difficult not to have a great credit score.
Once applicants discover that credit card sign up bonuses, indulged in moderation, will not hurt their credit scores, then they can enjoy some of these tempting offers.
About Jason: Jason Steele is a full-time freelance blogger who is an expert on credit cards and reward travel. He writes about credit cards and travel for The Card Journalist and several other leading personal finance sites.