Friday, July 18, 2008

Questions About Credit Scores - Improve Your Credit Score

Your credit score. It’s a number that’s just as important as your anniversary date, social security number, ATM PIN, and golf handicap. And while having a great handicap in golf won’t get you better interest rates (unless, I suppose, you’re golfing with the CEO of Countrywide), having an excellent credit score will.

Why Is Your Credit Score Important?

Credit scores not only determine the rates/conditions of loans/credit offers that you will receive, but they also can determine whether or not you’ll even receive an offer! Those with low credit scores may not even be able to receive a line of credit or loan at all!

Where Do Credit Scores Come From?

So who determines this monumental number in your life? There are three credit bureaus that operate in the United States:
- Experian
- Transunion
- Equifax

Each provides their own score, which will slightly vary between the three, all ranging between 300 (ouch!) and 850 (rumor has it, it is impossible to achieve). Your are entitled to a free credit report from each of these bureaus once every 12 months. If you are only doing it as a continual check, it’s possible to get a free credit report every 4 months by rotating which company you request from. That way, you should always have an idea of what it is that creditors are also viewing.

How Is Your Credit Score Determined?

How is your credit score determined? Much of it comes from your payment history (how well you are at paying your bills on time), as well as the amount you owe in comparison to how much credit you have available. However, other factors that come into play is the length of your credit history (someone who pays their bills on time and has a good ratio of debt to credit available, but has only 5 months of credit history is still pretty risky), recently issued credit, and the type of credit used.

Weighting of Impact on Credit Score:

35% Payment History
30% Ratio of Debt to Credit Available
15% Length of Credit History
10% New Credit
10% Type of Credit Use

Monitoring Your Credit

One option for monitoring your credit, which I’ve used for a few years after a small case of identity theft (I’ll tell you about that at a future date), is a service that Experian offers that is called TripleAlert. This service, which costs $4.95 per month, monitors ALL THREE of the credit bureaus for changes on a daily basis. Thus, if anyone were to try to open credit in my name – or if anything else were to change on my credit report – I would be notified within 24 hours. It’s been effective in catching any changes (which I’ve been able to test when legitimately applying for credit since I’ve added the service) and I’d highly recommend it as a tool to prevent destruction of your credit score by identity theft. In all, it monitors for new inquiries, potentially negative information, public information, new accounts, and address changes. You can even have it alert you by SMS text message. Cool, huh?

Ways to Improve Your Credit Score:

- Pay bills on time! This may be common sense, but if you don’t pay when you are required to, your score will take a big hit (see the weighting from the above section). Sometimes, people have the resources, but not the capacity to remember to pay their bills. If this is you, sign up for automatic payments on your accounts or bill pay through your banking institution. I enjoy the freedom of not having to be bogged down with paying bills, while continuing to have access to view the bill each month to monitor its accuracy. Again, it’s important that you keep sufficient funds in your checking account to pay these bills each month (but not too much in your checking account, as you can get a much better return in an online savings account!).

- Take the time to correct the errors - If you’ve never seen your credit report before, you might be surprised to see how many errors might actually be included. While you might not even realize they are there, you can be sure that they are dinging your score – this could be greatly impacting the terms of credit that you might have been or will be offered! If you know that you’ll have an upcoming purchase that you’ll need credit for, it’s worth the time to correct your score now. In fact, it can take 2-3 months (or more, in instances) to fix problems on the report. So start now! And if you find errors, be sure to contact the credit bureaus and get those cleaned up!

- Keep old accounts OPEN – Not surprisingly, this can be confusing to people. Why would I keep accounts open that I don’t use? The first reason is the “length of credit history” weighting. If you have a line of credit that you’ve had for a length of time, it should help your score. Remove that credit and the result will be a shorter length of credit history = lower credit score.

- Keep your debt/available credit ratio to about 25% - Just because your credit card company says that you can go out and spend $10,000 doesn’t mean you should! Ideally, you should be using no more than about 25% of your available credit. Would you rather offer a line of credit to someone who already has maxed out their other lines of credit? Probably not. So don’t be that guy that doesn’t know when to quit! This is also another reason not to close accounts – closing accounts will lower your available credit and raise your ratio of debt/available credit.

- Remember that parking ticket or library fine? – Yes, even forgetting to pay off that library fine or parking ticket can result in a significant decrease in your credit score. Don’t forget things like your utility bills! You can be sure that they will also report you if you fail to pay. That late library book fine might damage your credit report for a good SEVEN YEARS! Be careful about paying those off on time!

- Don’t open a lot of store cards (or any cards for that matter) – Yes, it may be tempting to open that card at (name your favorite retailer here) because they are offering (name amazing perk here) if you apply today! While many of those cards have sometimes astronomical APRs, it also looks horrible to have multiple inquiries and new accounts in a short period of time, especially right before you are looking to obtain credit for a more legitimate purpose (a car or home). Besides, you already have enough to keep track of with your finances. Do you really need to open another account to remember to pay off? These leads to my next point.

- If you can’t handle your cards or find yourself getting behind… - Sometimes people just reach a point where they lose self control. They have large credit limits and soon reach a point where they can barely make the minimum payments. While your credit score may have already taken a hit, it’ll be severely damaged if you are forced to start missing payments – or worse, file for bankruptcy (and that, my friend, will stay on your credit report for 10 years). I can’t take credit for the idea, but I also can’t remember where I heard it. If you need a break from your credit cards, go all cash for a while. In the mean time, take your credit cards and freeze them in water. That way, you’ll still have them, but in order to use them, you’ll have to make the choice to thaw the card out after pulling it out of the freezer. Yes, maybe a bit drastic for some, but it’s well worth it to help you slow down and live within your means.

- Share your tips – Anything else Everyman didn’t think of that you think would be beneficial for readers to know? Submit a comment below!

Overall, a good credit score can make life much easier. Your interest rates will be lower (this can be a significant reduction in payments, especially on large items such as homes) and you’ll have more credit available to you. By taking a few initial steps to improve your credit, along with consistent credit monitoring, everyman can maintain an excellent credit rating.

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