All About Your Credit Score: What it is and Why it’s Important

credit score chart with 700 average scoreHave you had the chance to check your credit score recently?  Were you pleased with the results? If so, you’re good company. Many Americans are seeing their credit scores jump.  According to April 2017 information from Fair Isaac, the creator of FICO credit scores, the average credit score hit 700 nationwide, the highest score in over 12 years.

The new average score of 700 is up just one point from October 2016 but represents the highest average score since 2005, the first year that Fair Isaac began tracking data. In addition to a record high average score, the number of consumers with a score below 600 is at an all-time low of 40 million. This represents 20% of U.S. adults and is down significantly from its peak of 25.5% in 2010.

 

 

What’s a “Good” Credit Score and How Can I Check Mine?

Credit Score Breakdown

As you make any financial move, your credit score comes front and center. Simply put, your credit score tells companies your credit worthiness. Anytime you apply for a credit card, home or auto loan, purchase a life insurance policy, or even apply for a job, credit score information will be required. It’s a major factor in whether a company is willing to lend to you, and what interest rate you will be charged.

Credit scores can range from as low as 400 to as high as 900, depending on which company is doing the scoring. One thing you should be aware of is that these scores are subjective. It depends on the company that is reviewing the scores and how they interpret the numbers.

A normal breakdown of credit scores is as follows:

  • Excellent: 800 and above
  • Very Good: 740 – 799
  • Good: 670 – 739
  • Fair: 580 – 669
  • Poor: Below 580

three credit score rankings

Those in the Excellent, Very Good and Good rankings will have more options available to them when choosing a loan or insurance plan. They’ll also receive the best interest rates and repayment plans, as well as lower fees.

If you fall in the Fair, Bad or Very Bad rankings, you’ll have to do a little more to show you’re a worthy client. You represent a higher risk of non-payment or default. You will be charged higher interest rates and may be asked to provide a larger down payment or collateral.

Check Your Credit Score Yearly

There are three credit reporting bureaus: TransUnion, Experian, and Equifax. Every person is entitled to a free credit report from each reporting bureau on a yearly basis. These credit bureaus maintain your credit information and calculate your credit score based on information they receive from your lenders and credit card companies. If this is your first time checking your credit score, FICO® provides this breakdown of scores and their ratings.

What Makes My Credit Score Drop?

Your FICO Score is calculated with five basic pieces of financial data; payment history, amounts owed, new credit, length of credit history, and credit mix. Each of these five categories holds a different weight in determining your credit score. breakdown of what data makes up a good credit score Payment History – shows whether or not you’ve paid bills on time. This accounts for the largest percentage of your credit score.

Amounts Owed – is how much you currently owe on your credit accounts. Although, having credit accounts and owing money on them does not automatically mean you are a high-risk borrower.

Length of Credit History – will generally increase your credit score. A longer credit history means a higher score. This includes the average age of your accounts.

Credit Mix –  accounts for your mix of credit cards, retail accounts, installment loans, finance company accounts, and mortgage loans.

New Credit – research shows that opening several credit accounts in a short period of time is risky, especially for people who do not have a long credit history.

Why would your credit score go down? Drops are the result of information from a lender or credit company that shows:

  • Missed payments
  • Closed accounts
  • Increased credit card balances
  • Reduced credit limits
  • An increase in new accounts

Why Your Credit Score Is Important & How It’s Used

It’s become increasingly important to know how to obtain your credit report, learn what factors determine your credit score, and understand what a good credit score is.

How Your Credit Score is Used

Your credit score is used for a variety of circumstances and impacts things such as credit limits and interest rates that will be made available to you. If your credit score falls in the Good, Very Good, or Excellent category, you will be offered a more attractive interest rates for loans and credit cards than someone with poor credit. Here are some financial related items that your credit score will influence.

  • Loans (school, car, home)
  • Credit cards (credit limits, interest rates)
  • Insurance (cost and coverage)
  • Renting/ other applications (security deposit amount)

Benefits of a Good Credit Score

Lenders, creditors, and insurers check your credit score and the information in your credit report when deciding whether or not to approve you for loans, credit cards, or insurance policies. The most obvious benefit of a rising credit score is that you’ll be approved more easily for financial services and with more attractive rates and fees.

Here are few ways that you will benefit from a good credit score:

  • Approved for higher limits on loans or credit cards
  • Can apply for premium credit card products (higher reward rates and fringe perks)
  • Easier to refinance your mortgage and lock in a better interest rate
  • Easier approval and expanded options for rental houses or apartments
  • Lower homeowner’s insurance premiums
  • Improved car insurance rates
  • Avoid security deposits to establish utility services

road sign Good Credit Score Just Ahead

Starting from Scratch

Young adults starting out quickly learn this financial life lesson: Having no credit history can limit your options just as much as having bad credit does. Lenders, rental offices, and insurance companies use your financial track record to judge how likely you are to pay debts and bills — and if you’re a blank slate, you’re generally considered a risk.

Fortunately, there are some simple steps you can take to quickly build a credit history.

Check for Fraud

You might be thinking: “I don’t have a credit report in my name. That’s why I’m reading this article!”

But beware: Identity thieves target children and teens as well as adults. With a young person’s Social Security number in hand, a crook has access to a clean credit history that can be used to apply for loans, get a credit card, open a checking account, seek government aid, or rent housing. And because parents rarely check their children’s credit histories, criminals can use that stolen information for years without being caught.

When you’re building a credit history from scratch, make sure your records are clean. As we mentioned previously, you have the right to a free copy of your credit reports from each of the three major reporting bureaus — Experian, Equifax, and TransUnion — once a year. Review yours and report any errors.

Open a Bank Account

Your checking and savings account history isn’t reported to the credit bureaus and won’t help you build credit. However, when you apply for a loan or try to rent an apartment, you will be asked to share your bank account information, so it’s a smart step to take.

Along with a solid credit history, maintaining a healthy bank account balance will help show that you’re a trustworthy and creditworthy individual.

Get a Credit Card

One of the quickest ways to develop a positive credit history is with a credit card, which lets you show that you can handle small amounts of debt responsibly month after month. Even if you can’t qualify for a card on your own, there are ways to take advantage of this credit-building tool:

Co-signer

You might be able to get a card if someone with good credit — such as a parent — is willing to co-sign the application with you. You and your co-signer will be equally responsible for the charges you make, along with any late-payment fees or other penalties if you don’t make payments on time. Also, late or missed payments can damage your credit score and your co-signer’s, too. But every time you make a payment on time, it will give your credit score a bump.

Authorized user

Another option is to ask a family member or significant other to add you to their credit account. First, though, make sure their bank or credit union reports activity by authorized users to the major credit bureaus. Otherwise, this won’t help your credit score. And remember that here, too, your activity with the card can affect someone other than yourself.

Moving Forward

Once you have a card, how you use it will determine how high, and quickly, your credit score rises. To keep moving in the right direction:

Make payments on time

The most common credit-scoring model is the FICO score, and it is based on a combination of factors. The biggest, making up 35% of your score, is your payment history. Pay all of your bills (not just your credit card) on time to keep your score rising.

Keep credit balances low

Try not to use your card up to or near your credit limit; it looks bad to creditors if your cards are maxed out. A good rule of thumb is to keep your balances at or below 30% of your total credit limit.

Don’t over apply for cards

According to a NerdWallet study that included an analysis of Millennials’ credit scores, many young adults are applying for the wrong credit cards and getting rejected — and that’s hurting their credit since excessive inquiries can make someone look like a bad credit risk. Apply only for cards you really want and space out those applications.

Increasing your Credit Score

The good news is that a bad credit score won’t haunt you forever, and while it may be slow going, you can work to increase your credit score. Making some changes to the way you’re managing your finances can increase your credit score. There isn’t a complicated list to follow, it really comes down to paying your bills on time and reducing the amount of debt you owe.

Look For and Fix Errors

Last year, 23% of the complaints received by the Consumer Financial Protection Bureau were about credit reports, most commonly incorrect information found in reports. Using different names when applying for credit (full name versus nickname) and clerical errors such a typos and transposed numbers are common ways that errors occur. You have the right to check your credit score every year, at no cost, so take advantage and look for errors. There are several ways that errors can show up on your credit report. Here are a few of the most common errors that may occur:

  • Using different names when applying for credit (using Chris Harris instead of Christopher Harris), which means part of your financial history may be missing from your report.
  • Clerical errors when entering personal information from a written application.
  • Your social security number is misread or mistyped, which can lead to someone else’s financial information showing on your report or your information showing on someone else’s report.
  • Loan or credit payments that are inadvertently applied to the wrong account, which can show as a missed payment.
  • If you spot an error on your credit report, contact both the credit bureau and the lender that provided the information. Under the Fair Credit Reporting Act, both parties are responsible for correcting the error.

Pay Bills On Time

A history of paying your bills on time makes up 35% of your credit score, so paying late or missing payments completely can have a big impact.

Payment Due call out on calendar

  • Set up auto pay with your lenders to automatically take care of reoccurring monthly payments, like your mortgage, student loan, or auto loan, by debiting the payment right from your bank account.
  • Get yourself on the right track by using calendar alerts or a personal finance app, like Mint, that will send a text, email, or pop-up when due dates are approaching. Even your bank or credit union mobile app may have text, email, or pop-up alerts.

Reduce Debt

When you increase your debt balance, especially if it’s a credit card balance, your credit score takes a hit. Keeping your credit card balances low and staying clear of your max credit limits are important steps you can take to raising your credit score.

  • Stop using credit cards, and carry cash instead. You’ll be working with a self-imposed budget every time you shop.
  • Identify your accounts that carry the highest interest rate (not necessarily those with the largest balance) and work to pay off those first.
  • Create a budget that assigns any excess funds into paying off your high-interest debt.
  • Keep making minimum monthly payments on all other accounts.

Don’t Get Close to Your Credit Card Spending Limit

Don’t get close to your spending limit on credit cards, it looks bad to creditors if your cards are maxed out. To increase your credit score, keep your balances at or below 30% of your total credit limit. This shows responsibility and creditworthiness.

Do you know your credit score? If not it’s time to check! What advice do you follow to keep your credit score high? Share with us by commenting below!

Liz Oliver
Liz Oliver

Liz Oliver is the Member & Loan Services Officer at Lancaster Red Rose Credit Union. She’s been a member of the LRRCU team since 2007.

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