There is nothing more overlooked by the majority of people than one’s credit score. This is not really based on any long term study I’ve conducted, but it’s probably true. Most people don’t know what their credit score is, why it’s important, what contributes to your score and how you can improve it. Well those people should read this post of mine because I will go into all of that and more. If you take away only one thing from this discussion, it should be that improving your credit score is a sure fire way for you to save THOUSANDS of dollars across a lifetime. This is because if you have a great credit score, you will get the best interest rates on mortgage and car loans. Getting the best rate can save you tens of thousands of dollars on your mortgage alone.
Your credit score is a number between 300-850 that lenders use to determine if you are a risky borrower or not. Generally speaking, the lower your credit score, the more risky you look to lenders which means they will give you the higher end of their interest rates. The opposite holds true for those with high credit scores. This means you will get a great rate for your mortgage, car loan and be accepted for all of the awesome credit cards available.
What goes into your credit score? Why not find out from the people that decide it? The Fair Isaac Corporation (FICO). Your credit score is also called your FICO score, so it pays to listen to what they tell you. They actually have a pretty informative website which has a nice pie chart telling what makes up your score. Looking at the chart, it’s easy to see what makes up the majority of your score: payment history, amounts owed and length of credit history. So as long as you make your payments on time, don’t go near your credit limit on your cards and do that for a few years, your credit score will be near the top.
Conversely, there are a few things that can absolutely KILL your credit score. And it’s a lot easier and faster to lower your score than it is to increase it. Making late payments is the #1 surefire way to kill your credit score. Looking at the chart makes that obvious, but it also makes sense. If you’re shopping for a home loan, the lenders will look at your credit score. If your score is low, it tells them you probably don’t pay your bills on time. This is going to discourage them from offering you their lowest interest rates since you seem risky to them. And late or missed payments can include anything: Credit card bills, past mortgage payments, rent, car payments, cell phone bills, utility bills and student loan payments. All of this stuff gets reported to the credit bureaus, so staying on top of your payments is vitally important.
What’s the best way to make all of your payments on time? Do everything online. Pretty much all companies now allow you to pay bills online (though some utility companies are still stuck in the past and ask to mail in checks). This makes things really easy as you can just bookmark all of your monthly bills and pay them right online. Many also allow automatic payments, which will automatically pay your bill on a specified day. Use technology to your advantage when it comes to your credit score. Your future self will thank you.
Another way to hurt your credit score? Getting really close to your credit limit. This usually refers to credit cards, and it specifically refers to your credit utilization ratio. If you have a $20,000 credit limit across all of your cards, and are consistently charging $19,999 every statement period, this shows lenders that you may be using too much credit and not giving yourself enough room to breathe. You are a risky borrower in their eyes. There are two ways to fix this. The obvious one is don’t spend up to your credit limit! Either switch to cash for some payments or go through your spending history and cut out the unnecessary stuff. Another way is to request a credit limit increase. Just call the number on the back of your credit cards and ask if you can get your limit increased. Some will do it and some won’t. But an increase of a few thousand can certainly help as that will bring your utilization ratio right down even if you don’t change your spending. Increasing your credit limits and decreasing your spending at the same time would be ideal way to go.
According to the FICO pie chart, new credit and types of credit used also contribute to your score. This is only 20% of your score, so it’s not really worth focusing a lot of your time on, especially if you have problems with late payments. Opening a lot of lines of credit will temporarily decrease your score a few points, but it will go back up once they realize you’re still making your payments on time. Focusing on late payments and high credit utilization ratios, the two credit score killers, is the quickest and most important way to improve your score.