Sunday, 18 August 2019

5 Factors That Affects Your Credit Score

Today we're going to talk about what factors can affect your credit score and how to deal with them, so once you have your first credit card, you are going to build your credit score in order to access high credit lines and get other better credit cards in the future

There are 5 factors which can actually affect your credit score and those are 

  1. Payment History (Which Affect 35% of Your Credit Score)
  2. Credit Utilization (That is the amount of money you owe as a percentage of a total credit line, that affects 30% of your credit score)
  3. Credit History (That affect 15% of your credit score)
  4. Credit Inquiries (That affect 10%)
  5. Type of Credit Used (That affect 10%)

Let's look at each of these factors in details

1. Payment History (Which Affect 35% of Your Credit Score)

That is 35% of how your credit score is figured out, so that is the largest factor, and that is determined by how frequently you meet your credit card payments, so if you miss one payment it can have quite a big impact on your score.

Meet Minimum Payment or Pay In Full Each Month

Always pay your credit card bill in full on time and actually you don't have to pay your bill in full to make sure your credit history is all positive information, you just have to meet the minimum payment each month which is normally between $25 to $35. Depending on the card.

Don't Pay Interest

Because if you don't pay your bill in full you are going to end up paying interest which sort of defeats the object of all the credit card, it's dept you're paying interest on, that can be 20% per year, you don't really want to pay interest because I don't want you to pay interest and if you are looking at taking out debt, a credit card is not the way to do it, it's better to get a loan. My recommendation is you should pay your credit card bill in full every month, otherwise, you are doing it wrong.

Let's look at a couple of ways to make sure you pay your credit card bill in full every month.

Safeguard Money In A Saving Account To Pay Your Credit Card

One way I like to use is to decide how much you intend to charge to a particular card that month, let's say $200, then first move $200 into a saving account, make the purchases using your card and once you hit $200 on the card that month. Don't use it again, until the end of the month and return to making purchases on your debit card or with cash then when the bill comes around you have the money in your savings account you compared immediately.

Direct Debit To Pay Minimum Payment

To make sure you never miss your minimum, to never get that negative information on your account is to set up a direct debit to your checking account to pay the minimum payment on your credit card usually around $25 and this will ensure you never have to pay any late fees and also never have that negative information on your credit report.

2. Credit Utilization (That affect 30% of your credit score)

Credit utilization is basically the amount of money you owe as a percentage of your overall credit line across all the credit cards that you have in your possession. This is called credit utilization, so here's an example,

  • Credit Line:  $1,000
  • Owes:          $500
  • Credit Utilization: 50%

If a person has access to a credit line of $1,000, this could be one card with $1,000 or two cards that are $500 each, doesn't matter, and they owe $500 on that credit cards out of that $1,000 total, they have a 50% credit utilization because 500 is 50% of 1,000. 

  • Credit Line:  $4,000
  • Owes:          $500
  • Credit Utilization: 25%

But if another person has access to a total credit line of $4,000 across one or more cards and they owe $1,000 across one or more cards even though they owe more money than the first person, that credit utilization is actually lower, it's only 25% because 1000 is 25% of 4000, so they are in a better situation maintaining probably a better credit score than the first person even though they owe more money then that first person.

What Should You do?

Maintain Low Credit Utilization - 30% Or Lower Is Good

Typically it's advisable to maintain credit utilization of 30% or low in order to avoid this factor having a negative impact on your credit score and if you are preparing to apply for a new credit card or another financial product then it's advisable to go even below 10%. But don't forget credit utilization is measured as a percentage of all the lines of credit you have access to added together, 

Apply For Credit Limit Increase

One way to lower your credit utilization could be to apply for a credit limit increase or even get an extra credit card in order to increase the overall credit line you have access to while keeping your spending the same. But your credit utilization will drop and you will have a positive impact on your credit score.

3. Credit History (This affect 15% of your credit score)

This is something young people or new immigrants to the United State will struggle with, the card simply hasn't been open long enough thus they have a negative influence on the credit score, luckily this only accounts for 15% of how your score is worked out.

Let Me Explain

Keep Credit Accounts Open

Even if you don't use them anymore, keep your credit accounts open. This factor is measured by the average age of all the cards across all your accounts that you have, so if you've sort of graduated from a basic card to a more premium card, keep the basic card open even if you never use it. Let's say you start with the Capital One Platinum like a lot of people do, once you get some other cards don't close that account down, keep it open maybe you buy a coffee with it once a month, pay it off immediately especially if there is no annual fee on that card, it's not going to hurt to keep it open and that is your oldest card, so it'll make the average length of your credit card account longer.

4. Credit Inquiries (That affect 10%)

There're 2 types of credit inquiries, 

  • Hard credit inquiries
  • Soft credit inquiries.

Hard Credit Inquiries Occur When A Lender Checks Your Credit

Hard credit inquiries are the type you need to worry about and they occur when a lender checks your credit report in order to make a lending decision. Eg, when you apply for a credit card or loan

Soft Credit Inquiries Occur When You Self Check Or Non-Lending Related Check

Soft inquiries occur when you check your credit yourself or a company checks your credit as part of a background check or you're pre-approved for a credit card.

Soft = No Permission

Soft inquiries can occur without your permission.

Hard = Require Your Permission

Hard credit inquiries definitely generally won't and these hard credit inquiries can cause your score to drop by between 2 and 4 points per time, but it'll usually rebound after a few months. People say 6 months sometimes shorter. Multiple hard credit inquiries in a short time can give the impression you are desperate for credit and that can cause significant damage,

Limite To 1 To 2 Times Per Year

By limiting these hard inquiries to every 6 months or so you allow your score to recover.

5. Type of Credit Used (That affect 10%)

Diversifying your credit accounts can help you improve your credit score, this is the least crucial of all these factors but I am going to talk about it anyway, even though many people really won't consider this when looking at how to deal with a credit score.

There are 3 types of credit accounts

Revolving Accounts E.G. Credit Cards

Where you make a payment each month, different payments each month depending on how much you spend, you can choose how much to pay back and how much interest, if you don't pay in full and I am talking about credit cards the most common type of revolving credit account is a credit card

Installment E.G. Mortgage, Auto Loan

Where you pay a fixed amount each month until the balance is paid off, mortgage, an auto loan is a good example of that.

Open E.G. Cellphone, Charge Card

Where you pay what you owe in full each month, but the amount might vary, so a cellphone account or a charge card, like those American Express charge cards. Only revolving and installment account will report to the credit agencies on a monthly basis, and generally open accounts like the cell phone bill, etc, will only report if you miss a payment, so they only report negative information, so they really don't help you improve your score. But making sure you keep up to date with your phone bill, your electricity, but all those other things will help you maintain and keep negative information across your score, but they won't help your score grow.

What should you do?

Well, you could consider opening another installment credit account ie, an auto loan or mortgage, but a lot of these are big life decisions, getting a mortgage you know that is not something you would do just to improve your report, so most people don't really need to worry about these things it's good that you know about it. If you do get a mortgage you know that getting a mortgage or an auto loan will have a positive impact on your credit report as long as you always pay it off on time.

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