What The Heck Does My Credit Rating Mean? (And Why Should I Care?)
Your credit score is one of several factors lenders use when evaluating your application for credit – like a car loan, for example. The most commonly used type of score is called a FICO score and ranges from 300 to 850 with a higher number meaning you are less of a risk to that lender, so that’s, well, good.
Good credit can help you in lots of ways, big and small:- Help the approval process when applying for big important loan (like car or home)
- Help you get a lower rate on your car or home loan and save you big bucks in the long run
- Affects your insurance cost, employment opportunities and housing options
- Credit can help you deal promptly with unexpected expenses or emergencies
- Using credit wisely can help make life more convenient when shopping or traveling (renting a car, paying for a hotel room or buying airline tickets)
Your credit score constantly changes with your credit activity. It reflects payment patterns with your most recent activities having the most impact. While there is no set standard that says, “you have a good score” it’s good to keep in mind that most mortgage lenders (like when your shopping for a home loan) are looking for a score of a least 620.
There are many categories of credit information that determine your FICO score, but some make a much bigger impact on your score than others:- Payment History = 35% – major factors here are late payments on a credit card or loan, especially if the lateness happened a lot, happened recently, or was for a large amount.
- Amounts Owed = 30% – this is influenced by the amount of outstanding debt you have (loans or debt that are not paid off yet), and if the balances are especially high or close to your credit limit, like on a credit card
- Length of Credit History = 15% – accounts that you’ve had for more than two years will have more of a positive impact, so if you’re constantly switching credit cards to transfer amounts for a lower starting out rate then you might be reaping short-term rewards, but in the long term it can hurt your score
- New Credit = 10% – when, what kind, and the number of credit applications you make are also factors in your score. If you apply lots and lots of times you can lower your score, but all mortgage or auto loan inquiries made within a fourteen-day period are considered just part of comparison shopping, and only count as one inquiry for scoring purposes.
- Types of Credit Used = 10% – having different types of credit accounts, and demonstrating that you can handle a variety of credit instruments RESPONSIBLY and appropriately (such as a properly managed credit card, a home mortgage, a car loan) is what we mean when we refer to good credit, and can improve your rating.
Improving Your Credit Report
While it’s not possible to remove accurate negative information before it’s time for it to “drop off” the report (negative information can last up to 7 years, while positive information can last indefinitely) you can improve your score by using credit responsibly:- Pay On Time, Every Time – a commitment to never making a late credit payment again is one of the most powerful steps you can take to improve your credit rating
- Reduce Your Debt Load – even if you have never missed or been late with a payment, excessive debt will lower your score. Develop a plan to reduce it. A credit union can provide you access to services that can help you set up an effective spending and savings plan, and determine options for efficient debt repayment
- Limit Open Accounts – two to four open unsecured credit accounts is usually perceived as a good number to have, but having too much available credit can make you appear risky to a lender
- Keep Your Old Accounts – accounts that you’ve held for two years or more show credit history, which indicates stability
- Avoid “Maxing Out” Accounts – keep your balances no more than 60 percent of the limit on your credit cards
- Avoid Excess Credit Card Applications – each time you apply for a credit card, your score decreases just a bit. Too many applications can be damaging, so only seek loans and credit you truly need.
Money Management and the Wise Use of Credit
With credit being so available and so convenient, it can be easy to get in over your head. Over extension gets thousands of consumers into financial trouble every year. Designing a realistic spending plan will help you determine how much credit you can afford- and will safeguard against using credit to supplement your income. Click here to learn more about budgeting.
