Last week I was on CNBC discussing the merits of charge cards for credit building, which are marketed to consumers in their 20s by Amex. The product is called the Zync card. I was joined by a gentleman from Amex. You can view the video below in a previous CreditBloggers posting. My argument was entirely specific to the downside of using a charge card, a credit vehicle with no credit limit, instead of a credit card. Here were my arguments:
1. Charge cards have no credit limit, so the highest balance ever charged would be used as the denominator (the bottom number) when calculating utilization. And charge card balances tend to be lower than credit card balances because you have to pay it in full each month. Point being, it's not likely that you'll have a balance of $5,000, $10,000 or even $20,000 on your charge card, especially as a 20 something. That is, of course, unless you're a professional athlete.
So, if the most I've ever charged was $1,000, then even a modest balance of $500 would result in that card being 50% utilized, and that's not good, because having a high revolving utilization percentage like this is not good for your credit scores. It's not terrible, but it's not good. You can play around with the number on each side and see how other charges/high balances would change utilization. This is the point I made on the air.
2. Consumers in their 20s have younger credit reports and fewer accounts. What this means is that they'll likely be scored in a "thin file" or "young file" scorecard. What this means is even modest balances will have more of an impact than the same balance belonging to a consumer who has a much older or robust credit history. I was not able to make this point on the air. It's a complicated topic and you have a finite amount of time to fully make your point.
Now, after the show aired, two things happened that I found interesting, but not surprising. First, someone from Amex's outside PR firm started following me on Twitter. And while I'm not a conspiracy theorist, I find the timing to be way too close to be coincidental. Second, I got a call and an email from Amex's VP of Public Affairs, who I called back that afternoon.
The point she made was that not all scoring models include charge cards in the calculation of utilization. And she's correct. One of the scores she referenced was the VantageScore. Admittedly, I'm not a VantageScore expert, because it has 5.7% of the market, so I have to take her at her word for that. She also referenced custom scoring models, which are models built either internally by a lender or by a 3rd party model developer for one lender's use. It is entirely possibly that she is also correct there, but nobody really knows for certain because custom models don't have the same amount of transparency as, say, FICO scores do.
So, she might know for Amex's custom models, but not for the large collection of other custom models used by Amex competitors. She was also not willing to go on the record as saying that Amex uses VantageScore, so her argument, while valid, would have made more sense perhaps in a few years when Amex and the vast majority of other creditors can say that they do, in fact, use scoring models that don't count charge cards in utilization.
I even had someone, not from Amex, make the suggestion that you could go out and charge a large amount of purchases, run up the high balance, pay it in full, and then enjoy the higher "highest balance" in your score. That was the same argument people made years ago when Capital One wasn't reporting credit limits and high balance was being used for utilization instead. I didn't buy it then, and I don't buy it now. It assumes that you understand the whole issue and care enough about it to go buy a $10,000 antique lamp just to run up a huge balance and benefit your credit score.
Essentially what it boils down to is this: What I said on CNBC was 100% accurate for some percentage of the credit scoring models being used by lenders today. And, it was 100% incorrect for some percentage of the credit scoring models being used by lenders today (those that don't use charge cards in utilization). And while Amex isn't going to agree with me, I still think charge cards aren't the best tool to build credit for young people, for the same reasons as I have stated above.
We don't know what scoring models are being used by lenders or insurance companies when we go out and apply. As such, we don't know if it's one of the models that DOES or DOES NOT count charge cards in utilization. And we'll never know how a lender's custom models treat charge cards.
What we DO know is a credit card with a $10,000 credit limit will be treated as a card that has a $10,000 credit limit, which is what we want. And if we have such a credit card, and we charge $1,000, we are still only 10% utilized, which is the best scenario for our credit scores.
Amex is a perfectly fine credit card company. They're generally regarded as being the gold standard, and I don't disagree with that moniker at all. I have two Amex cards, which are surprisingly still open. A charge card DOES have benefit to your credit. Having a card on your file serves to build a credit history, and that's a good thing. Plus, it's true that you probably won't find yourself in crushing credit card debt because you know it has to be paid off in full each month. This serves to control the balance and teach good money management for people young and old.
My points are on the record and I stand by them. Perhaps next time we can have the discussion in a forum that allows a more complete investigation of the facts.
John Ulzheimer – Credit scoring and credit reporting expert and author, John is the President of Consumer Education for Credit.com. Formerly with Equifax and Fair Isaac, John shares his unique insight of the inner workings of credit scoring models and the credit reporting industry on CreditBloggers.com.