By Brenda Weathers Hargroves
Do you know how your credit score is calculated? This image shows the percentages assigned to each category. I will briefly touch on how the categories are defined; however, this post will mainly focus on pitfalls you may not be aware of. (Disclaimer: As a writer, I’ve consciously decided to end this sentence with a preposition. So, grammar police, please don’t shoot me!)
Anyway, here’s a bit more insight into the thinking of the credit rating gods.
Your PAYMENT HISTORY (35%) scores the highest percentage and is the most important factor. The longer you’ve paid your bill on time, the better your score.
What They Don’t Tell You – Ideally, you should pay off your balance each month;
however, if you carry a credit card balance, pay more than the minimum every month.
Paying just the minimum can lower your score and racks up interest. Credit card
companies are now required to include information on your bill that calculates how
long it would take to pay off a balance and the amount of interest you will accrue if
making minimum payments.
The AMOUNT YOU OWE (30%) is the second most important factor. The more you borrow against your available balance, the lower your score.
What They Don’t Tell You – No matter the amount of your credit line, never use more
than 1/3 of your available balance. Your score will suffer if you do.
A longer CREDIT HISTORY (15%) usually equates to a better score.
What They Don’t Tell You – Do not close an account you’ve paid off and had for a while.
When closed accounts are deleted from your report, lenders can’t see you’re worth the
risk because you meet your obligations. And last, secured credit cards can help build
up a credit history, but check to be sure the lender reports your payments to Credit
Reporting Bureaus. Some resources for secured credit cards do not do so.
Note: A secured credit card is backed by money you deposit into an account as
collateral. Once the lender sees you’ve successfully managed on-time payments for a
certain period of time, you’re usually eligible for an unsecured card and your initial
deposit is returned.
NEW CREDIT (10%) is a lesser factor in credit score calculation. Young adults who don’t have a long history should not open a lot of new accounts around the same time. It signals a red flag and will lower your score.
What They Don’t Tell You – Don’t be fooled by instant discounts enticements to open a
new account (i.e., 10% discount on your purchase if you open a retail account).
Opening the account could lower your credit score and cost you more in fees than you
will have saved with a 10% discount on your purchase.
A ‘hard inquiry’ appears on your credit report when you apply for new credit. This
notation can affect your credit score for 12 months. Too many hard inquiries send the
message to creditors that you are desperate for new credit. A ‘soft inquiry’ (made by
you) does not affect your score. Your request for a free annual credit report is a
example of a ‘soft inquiry.’
The TYPES OF CREDIT USED (10%) is also a lesser factor. Opening new accounts to have a better credit mix could lower your score more in the short term. It’s good to have at least one major credit card in addition to retail store credit cards.
What They Don’t Tell You –Credit card debt with high interest charges may be viewed
negatively by other lenders. Payday and title loans don’t always report your history to
Credit Reporting Bureaus, but they do report missed payments.
Conclusion – Credit score calculations consider circumstances we may not have thought about. Your credit score is the adult version of your GPA. Like your grades, the better your overall financial track record, the better you can weather an occasional mishap without greatly affecting your score.
So, be honest! How does your credit score stand up? Where do you need to make improvements?
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