Today we discuss how to build good credit, but first we'll quickly talk about what a credit score is and why it matters.
Credit scores are an assessment of how responsible you are with money that has been loaned to you. These scores assess your credit history and how well you handled borrowed money.
Why It Matters
Lenders use credit scores to determine how much it costs you to borrow (interest rates), how much you can borrow (credit limits), and what kinds of credit you can have (high-quality loans vs. “revolving credit” [credit cards]).
People with higher credit scores have access to better services and lower interest rates as they are perceived as less of a risk.
People with lower credit scores end up with poorer services and higher interest rates. This means it is harder for these people to borrow, and when they do borrow, carrying a balance costs them much more money due to the high interest rates.
Categories Used to Determine Your Credit Score Include
In order to score well in this category, you need to stay below 30% of total limit available to you. If you utilize more than 70% of your credit and do not pay it off, you will lose points on your credit score. Here are the potential scores based on your credit usage. To have an Excellent score, you need to utilize less that 20% of your available credit:
Not Bad 41-60%
Pay on time. Nonnegotiable. Never be late for a payment. Your most recent payment history counts more than your past history. Here are the potential scores based on how often you pay on time:
Not Bad 98%
Length of Credit
This is measured by the longest standing account you have open -- if you close that account, you won't have as long a history.
Poor 0-3 years
Not Bad 3-6 years
Good 6-9 years
Excellent 9+ years
Multiple lines of credit in different types help raise your credit. Potential lines may include a line of credit, credit card, home loan, student loan, etc. That said, too many can hurt your credit score. (Getting to Excellent on this one isn't actually a goal we'd recommend). Here are the credit scores associated with number of accounts:
Not Bad 6-12
Anytime you apply for credit or have your credit score checked, it is indicated as an "Inquiry" on your credit report. Too many inquiries will negatively affect your credit, as it suggests you are trying to borrow a lot of money within a short time frame. Inquiries stay on your report for two years. Here are the credit scores associated with credit inquiries:
Not Bad 5-10
When dealing with your lenders or collectors, being rude can lower your credit score -- no joke! Be polite when you speak with your lenders, no matter how frustrated you might be feeling. Here are the credit scores associated with instances of derogatory remarks:
Not Bad 2
It's also important to know there's more than company that offers and evaluates your credit score, Equifax often being the best known. Each company will weight your credit score differently, but they generally stay within a similar range of about 300-850.
Bad 550 and lower
There you have it. Credit demystified. Keeping good credit habits will not only help credit score, it's going to help your overall financial situation and may keep you out of significant debt.
Squirrel and Nest offers one-on-one and small group financial counseling services that aim to give individuals the knowledge and independence they need to get their financial lives in great shape.