Why you should get (and keep) a no-annual-fee credit card
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Editor’s note: This post has been updated with new information on credit cards and scores. It was originally published on May 12, 2016.
Many consumers start building their credit by opening credit cards that do not charge annual fees. This is is an inexpensive way to create a credit history and start earning rewards without having to pay for an expensive card year after year.
As time goes on, some folks may ditch that no-annual-fee card in favor of another product with higher rewards potential and more benefits. But as the credit card marketplace becomes ever more competitive, there are many reasons to keep a no-annual-fee card around.
First, many newer no-annual-fee cards offer great benefits and points-earning opportunities on par with premium cards. It could be worth keeping one around to up your everyday earning. Closing a credit card might also have unintended repercussions on future card applications, as each bank or issuer approves new credit card applications according to its own unpublished rules.
Here is a detailed look at the circumstances when you might want to not only get, but also hang on to, a no-annual-fee card:
1. It’s usually easier to qualify for a card without an annual fee
As opposed to more premium products with annual fees in the hundreds of dollars, like the Chase Sapphire Reserve or The Platinum Card® from American Express, it is often easier for first-time applicants or consumers new to credit to apply for and be approved for a credit card with no annual fee.
In fact, many no-annual-fee cards are specifically made for folks with no, poor or recently-established credit. No-annual-fee cards are also a great way to get started with credit and dip your toe into the major rewards programs without needing an excellent credit score or committing to a high annual fee.
2. Build your credit history and boost your score
Carrying a credit card can help you build your credit history and thus your overall credit score. And by credit score, we’re talking about your FICO score, the measure by which most financial institutions will judge a consumer’s creditworthiness.
Your FICO score is determined by five main factors. The first is payment history — basically whether you pay your bills on time and in full. This accounts for 35% of your overall score. Using a credit card and paying it off every month can help boost this metric over time.
The factor with the second-most weight (30%) is credit utilization, or the amount of debt you put on your credit card compared to your overall line of credit. By opening one or more new cards, you typically increase your total credit line. Conversely, if you close a credit card account, you cut its credit limit from your overall line of credit and thus raise your debt-to-credit ratio. This one reason alone – keeping your credit limit as high as possible as a counterweight against your credit card use – is probably significant enough in itself to keep a no-annual-fee card open year after year.
Another 15% of your overall score is based on the length of your credit history. That means keeping a card open and in good standing for years, or even decades, will improve this portion of your FICO formula. Hanging onto an older credit card account can minimize the effect of opening new lines of credit by acting as a balance to younger accounts.
The final 20% is split evenly between new credit (which factors any recent lines of credit opened into your score) and the mix of credit (which considers what types of debt you have on your report — mortgages, car loans, student debt, credit cards and more).
Getting a no-annual-fee card, using it responsibly and keeping it open can all positively impact major factors in your credit score, making these types of cards a powerful tool for building, maintaining and improving your credit in the long run.
4. It doesn’t cost you anything
One of the most persuasive points in favor of keeping a credit card with no annual fee is that it doesn’t cost anything to keep in your wallet year after year. Just make sure it’s considered an active account by using it for a small purchase every couple of months. Not having to find ways to use a benefit to offset a card’s annual fee makes it much easier to justify keeping around.
5. Diversified earning categories
Many premium rewards cards, and certainly a lot of the airline and hotel co-branded ones, offer similar bonus earning categories where you can accrue multiple points or miles per dollar on purchases like travel, airfare, hotels or dining.
Credit cards with no annual fees are geared toward more general spending and often award bonus points for everyday purchases like groceries or gas. That’s why it might make sense to hold onto a credit card with no annual fee even if you have a complementary card with a fee from the same issuer.
One of the best examples of this is combining the Chase Sapphire Preferred and the Chase Freedom Unlimited to earn bonus points on nearly every single purchase.
You can rack up Ultimate Rewards points quickly with the Chase Sapphire Preferred thanks to its 2x bonus earning on a wide range of travel purchases and dining worldwide. It has a $95 annual fee, but is also offering new cardholders 60,000 bonus points after they spend $4,000 in the first three months, and is a great choice to use internationally since it waives foreign transaction fees.
The Chase Freedom Unlimited, with no annual fee, earns a flat 1.5x points per dollar (redeemable as cash back at a rate of one cent apiece) on all purchases. So you can use it for all the purchase categories in which the Chase Sapphire Preferred does not earn a bonus and still get a decent rate of return.
If you have just the Chase Freedom Unlimited on its own, your points can only be redeemed for cash back. But if you have a card like the Chase Sapphire Preferred (or the Chase Sapphire Reserve or Ink Business Preferred, for that matter) that earn full-fledged, transferable Ultimate Rewards points, you can combine the points you earn with your Freedom card with those from your other accounts and they become transferable, too.
6. Closing a card might preclude you from other offers
Each bank or issuer has its own set of complicated (and often unpublished) rules regarding credit card applications. Not only is this confusing, but it also means that closing a credit card could impact your future applications.
Some banks will restrict you from applying for an additional or new product based on when you opened or shut down a previous credit card account. Citi is the most obvious example. For instance, the application page for the Citi Premier℠ Card states:
“Bonus ThankYou Points are not available if you received a new cardmember bonus for Citi Rewards+℠ Card, Citi, ThankYou® Preferred, Citi ThankYou® Premier/Citi PremierSM or Citi Prestige®, or if you have closed any of these accounts, in the past 24 months.”
So if you had the Citi Rewards+℠ Card open for a few years and applied for the Citi Premier, no problem. But if you had the Citi Rewards+, closed it, then applied for the Citi Premier Card within two years, you’d rule yourself ineligible for the Citi Premier’s sign-up bonus of 50,000 points (after spending $4,000 on purchases in the first three months). That would be reason enough to keep the older card open, at least until your application for the new one was approved.
Another infamous restriction is Chase’s so-called 5/24 rule. Consumers who have opened five or more personal credit cards in the preceding 24 months will generally not be approved for a new Chase card. The bank also seems to limit the overall number of its cards for which certain people can be approved.
The information for the Citi ThankYou Preferred, Citi Premier and Citi Prestige has been collected independently by The Points Guy. The card details on this page have not been reviewed or provided by the card issuer.
7. Low or no intro APR
One of the fundamental rules for creditworthiness and a responsible rewards strategy is paying off your balance in full every month. As mentioned above, that’s because your debt-to-credit utilization ratio is a huge part of determining your credit score. When you carry a balance, this can drag down your overall credit report. But life happens, and sometimes carrying a balance for a few months is inevitable. This is when no-annual-fee cards can be lifesavers.
In place of flashy sign-up bonuses, many no-annual-fee cards offer new members 0% APR interest on new purchases and balance transfers for a set amount of time (typically anywhere from 12 to 18 months).
For example, the Capital One® SavorOne® Cash Back Credit Card is currently offering new cardholders an introductory APR of 0% for the first 15 months on purchases and balance transfers (then a variable APR of 15.49% to 25.49% applies).
Again, this should only be a last resort. You should plan to pay off your balance in full every month to both avoid late fees and interest and doing long-lasting damage to your credit score. But if carrying a balance is part of your short-term strategy, then a credit card with no annual fee (and a decent intro APR offer) might be the best option.
8. Great no-annual-fee options
Finally, given how diverse the marketplace for rewards credit cards has become in recent years, it should come as no surprise that even products with no annual fees have raised their earning potential and improved their benefits packages. Check out TPG’s guide to the best no-annual-fee credit cards for some of the best offers available right now.
No-annual-fee rewards cards are excellent options for folks who are just starting out with credit or looking for ways to improve their overall credit score. Keeping them open year after year is a good strategy to maintain that score and does not require serious commitment, since you literally pay nothing to keep the card each year.
The number of great choices out there also means that there is likely a good match for your needs, no matter what your spending habits and travel goals are. Before applying for (and certainly before canceling) any card, review its terms and conditions, read up on how you can maximize its benefits. Also be sure of what you might be missing out on before closing it.
Featured image by Wutthichai Luemuang/EyeEm/Getty Images.
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