Your credit score is an important part of your financial portfolio. We typically spend a great deal more time thinking about our assets (i.e. bank balances, investments, real estate) than we do our liabilities. But there are some big wins to be had on the other side of the balance sheet.
It does matter what kind of rate you get on your mortgage and how flexible your business is. Those big wins matter. And they’re all affected by your credit score. Also known as your FICO® Score.
The Fair Isaac Corporation (FICO) set up the FICO® Score so that lenders could quickly determine if you’re to be trusted when it comes to paying back debt. They suggest that the higher the score, the more likely it is that you will be able to pay back a lender for money borrowed.
“FICO® scores help lenders make accurate, reliable and fast credit risk decisions across the customer lifecycle. The scores rank-order consumers by how likely they are to pay their credit obligations as agreed.”
Obviously all kinds of lenders (credit card companies, mortgage companies, banks, etc.) use this score to help decide if they want to work with you. If you need to use those products, then you’ll want the most favorable interest rate possible. A high score can mean a low rate on your mortgage.
Other companies also use the FICO® Score to determine if they want to do business with you. For instance, cell phone and TV service companies often need to determine how credit worthy you are before they invest a great deal of upfront cost in you. A high score can help you avoid a big deposit requirement to set up an account.
Given all those reasons, it’s probably a good idea to at least do some research and try to improve your credit score. Even most people in the anti-credit camp will agree that they need to depend on a nice credit score to get a decent mortgage rate.
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Now understand this: there aren’t really any legit ways to quickly boost your credit score that I know of. It takes time to improve your score. Be very wary of any offers to instantly improve your credit score.
Also, the five points I make below aren’t new bits of information. You could find all of this information on Fair Isaac’s website. But what I will do is give you some specific action steps, not just generalities.
Take a look at the factors in the chart below that make up your credit score. It’s these five factors that my tips will be based on.
Improve Your Credit Score
1. Pay Your Bills On Time – This is the biggest factor that the credit bureaus use when it comes to determining your credit score. And rightfully so. Most lenders are most concerned with whether you’ll pay them back on time. If you’ve shown a good track record with this in the past, then you’ll be trusted in the future.
Take action: Don’t miss any payments. Review your free credit report and ensure you don’t have payments that were misreported as late. Also, make note of any unusual accounts you see on your report. A late payment on an account that isn’t yours shouldn’t be on your report. Next, take the steps to clean up your credit report by requesting that the items be removed.
If your late payments are legit, then there’s nothing you can do but try and make good payments going forward and work on the other areas.
2. Keep New Credit Request to a Minimum – Requesting new credit often can lower your credit score. Apparently, the lenders see it as a sign that you’re desperate for cash if you’re always requesting new credit. Keep requests to a minimum if you’re planning on needing your credit score soon.
Take action: Don’t make any unnecessary new credit requests. Review your credit report and look for any “hard” inquiries that have been made on your file. If you don’t recognize an inquiry, submit a request for the inquiry to be removed.
3. Grow Your Credit History – Easier said that done right? This is obviously the biggest hurdle for most people starting out. The longer your history with credit, the more comfortable lenders are with relying on that history to determine credit-worthiness.
Take action: Review your credit report for any accounts that aren’t there. You want to get credit for the history that you have. If you see a missing account, request for the account to be added. Also, don’t cancel any old credit cards. Even if you pay off a credit card completely, cut it up and plan to never use it again, don’t close the account. The history and available balance are actually helping your credit score, which leads us to the next tip.
4. Keep Your Credit Balances Low – It’s recommended that you keep the amount that you borrow at or below 25% of your available balance. In simple terms, if you have a $1,000 credit limit on your credit card, you need to only ever show a balance of $250. This should apply to all your revolving accounts.
Take action: Make sure you keep your balances low. Pay down all of your high balances. And like the other points above, make sure your credit report accurately reflects your balances. Consider using a 0% balance transfer credit card to move your credit usage around.
5. Use Revolving and Installment Debt – The key here is to have a decent mix of both revolving (credit cards) and installment (mortgage, car loans) type credit. I was once told I didn’t get the best interest rate on a deal because I didn’t have a mortgage (limited installment credit history). At the time I wasn’t ready to buy a house. So I just had to take the best they would give me.
Take action: If you don’t have installment credit, I don’t recommend that you run out and get any. Just keep in mind your credit score may have a ceiling until you get a car loan or a mortgage. Probably nothing you can do here.
However, if you don’t have a credit card, you may want to consider getting one to help your credit score. I don’t recommend you go into debt. The most beneficial way to use the card would be to use it for a recurring monthly bill (i.e. your electric bill) and then immediately pay off the balance.
In summary, I think it’s good to remember that your credit score isn’t everything. Don’t obsess over achieving the perfect credit score. It’s not going to kill you to have a 740 versus a 760. But it doesn’t hurt to be aware of the five factors that make up your score. And with that knowledge you can slowly start to improve your score over time.