Working on Credit
There are three major credit bureaus: Equifax (scores range from 334-818), Experion (scores range from 320-844), and TransUnion (scores range from 309-839). There are numerous credit scoring models and all of them have different algorithms for credit score determination.
5 Main Categories of Credit Reporting
- Payment History (35%)
- Amounts Owed (30%)
- Length of Credit History (15%)
- New Credit (10%)
- Types of Credit in Use (10%)
1. Payment History (35%)
This is the largest factor in credit reporting, accounting for 35% of the determination of credit score. The types of accounts that are taken into consideration are: credit cards, installment loans, retail accounts (store credit cards), finance company accounts, mortgage loans, student loans, public records, and collection accounts.
Various factors are assessed to determine your payment history, which will give an idea of how likely you are to pay back your credit. Bankruptcy affects the types of financing that you have available and stays on your credit report for 7-10 years. Newer and larger accounts will count more against a good score, we’ll get into the ‘why’ later on. Late payments have a negative impact on your credit score, and certain factors like how late, how much owed, how recent, and how many all play a part in this section of your credit score.
2. Amounts Owed (30%)
Another significant factor in credit reporting is the amounts owed. This looks at amount owed vs. account limit. For example, if you have a credit card with a $1,000 limit, and you have a credit of $120, you are using 12% of your credit limit, or credit available. The higher the percent of credit you are currently using (or Debt to Balance ratio), the lower your score. There is a larger weight for credit cards than other types of credit lines. Also factored into consideration are the types of accounts (i.e. credit card, auto loan, mortgage loan) you have, how many accounts you have, and how many cards are maxed out or close to maxing out.
3. Length of Credit History (15%)
How long have your accounts been established? Credit reports consider the age of the oldest, newest, and average age of all of your accounts. If you have an account that you’ve been making monthly payments on for the last 5 years, that shows that you’ve made 60 on-time payments and assures a lender more than an account that you’ve been making monthly payments on for only 2 years.
Having different types and multiple lines of credit open can improve your score. However, if you open several credit cards at once, that will lower the average age of all of your accounts considerably and have a negative impact on your credit score. Allow time between opening new accounts.
4. New Credit (10%)
That brings us to our next point—new credit. Opening several accounts in a short period of time is bad and will negatively affect your credit score. How many new accounts have been opened? One new account does not damage your score as much as 3 new accounts does. Also consider how long since the accounts have been opened. One month after opening new accounts does not show that you have made payments or allow for the average age of your accounts to grow. New credit can affect your score even without opening new accounts. Hard inquiries (like those made by credit card companies to decide if you get a card) damage your score and stay on your report for 2 years.
5. Types of Credit in Use (10%)
Your FICO score will consider a mix of: credit cards, retail accounts, installment loans (i.e. auto), finance company loans, and mortgage loans. A mix of credit accounts is generally positive for credit, however there is such a thing as too many accounts.
How to Improve Your Credit Score
Let’s take a look at a few basic ways to improve your credit score.
- Pay bills on time
- Missed some payments? Make payments as soon as you can to get current on them and stay that way.
- Closing and paying off a collection account will not remove it from your credit report, but that’s better than having an outstanding collection.
- Contact creditors if you’re having problems or see a legitimate credit counselor to find out what makes sense for your specific situation.
- Keep balance to limit ratio low on credit cards.
- Pay off debt rather than moving it around.
- Don’t close unused credit cards as a strategy to raise your score. This may lower it.
- Don’t open a number of new credit cards just to increase your available credit and lower your balance to limit ratio.
- Don’t open a lot of new accounts too rapidly. As mentioned before, this will lower the age of your accounts.
- Do your rate shopping for auto loans and mortgage loans within a 30-day window. Multiple inquiries for these types of loans in a short period of time will get consolidated into just one inquiry on your credit report.
- Poor credit history? Open new accounts responsibly and pay them on time.
- Check your own credit report and FICO score. There are several online options to do this (creditkarma.com; annualcreditreport.com; myfico.com; etc.) Checking your credit report here should result in a soft inquiry, or one that does not show up on your report and affect your score but be sure to check the website that you use.
- Manage your credit card debt responsibly.
- Remember: closing an account will not make it go away.
Credit Counseling Methods
Misconceptions and Myths about Credit Reporting
Myth #1: Your score drops if you check your own credit.
Truth: Viewing your own credit score is counted as a “soft inquiry” and doesn’t change the score one way or another. “Hard inquiries” by a lender or creditor, such as those resulting from your applying for credit, can slightly lower your credit score. If you’re shopping for a loan and concerned about harm to your credit score, know that multiple loan inquiries within a period of 30 days are usually treated as a single inquiry to minimize impact.
Myth #2: You only have one credit score.
Truth: There are numerous credit scoring models. All are developed to tell you the same thing: how much of a risk do you present to lenders? While the varied scores may differ in numerical values, you’ll find that they should be consistent in terms of the underlying meaning. If you’re risky by one score, you’re risky by another.
Myth #3: Closing accounts can help your score.
Truth: Closing accounts is rarely beneficial to your credit score. If there is a negative item being reported on your credit score, closing that account will not remove it from your credit report. In fact, if the account you close was a credit card, then closing it would reduce the amount of credit available to you in the future. If closing a card would dramatically increase your balance to limit ratio, or make you appear maxed out, then this could actually harm your credit score.
Myth #4: Co-signing doesn’t mean you’re responsible for the account.
Truth: If you open a card jointly or cosign on a loan, you will be held legally responsible for the account. Activity on the join account is displayed on the credit reports of both account holders. If you cosign for a friend’s auto loan and that person doesn’t make the payments, your credit profile will be hurt and vice versa. The only way to end the dual liability is to have one party refinance the loan or persuade the creditor to formally take you off the account.
This is just a basic overview of credit scores, and we suggest speaking with a lender or credit counselor to further determine the best options for your specific situation.
Lorre Buhler, Gateway Mortgage — (605) 646-2268 or email@example.com
Mark Abrams, Epoch Lending — (605) 391-3895 or firstname.lastname@example.org
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