January 18, 2021
What Really Affects your Credit Rating, and Tips for Improving Your Credit Score
Nobody likes to talk about their credit score, that three-digit number that follows you like a rash. And yet, these three inconspicuous digits co-determine the quality of your financial life whether you want them to or not.
Most consumers do not really want to engage with the credit score system and the major components that determine the actual score and what impact certain decisions have on their financial ranking, but that is a mistake.
What is a Credit Score?
The United States credit score system was co-developed by the three major credit agencies, Experian, TransUnion, and Equifax in cooperation with commercial banks and credit card companies. It incorporates your financial decisions based on your dealings concerning available and obtained credit and your repayment history of financial obligations. Think of this system as a historical scorecard regarding your financial accountability. The three digits range from a low score of 300 to a top score of 850 depending on your financial history.
What Factors Create my Specific Credit Score?
Several important factors together rate you and your financial dealings. Improving your credit score requires first understanding these points. Until you know how to fix a low credit score, you can be stuck with bad credit loans and low credit loans.
The first and most important indicator is your personal payment history. When a bank or any other financial provider sees your score and looks over your specific credit report, your past performance becomes your calling card regarding any future credit. The importance of your payment history becomes clear when you realize that 35% of your FICO score is based on your personal payment history.
The second point is how much credit you use compared to your total credit capacity. This point is measured by a ratio that determines if you are close to being tapped out. Especially during the trying time of the COVID-19 crisis, many families have resorted to meeting their financial obligations by tapping into their credit cards. The higher your utilized credit goes in relation to your total credit limit, the more negative impact it will have on your credit score. Your credit utilization ratio is responsible for 30% of your FICO score.
The Length of your Personal Credit History
The longer established your credit history is, the stronger the signals that emerge from it, and the higher your FICO score will be. The measure here is how long you have held accounts and how you have dealt with them throughout your relationship with these accounts. The longer your credit history, the more credit you will be able to attain, provided that you have been responsible with your personal payment history. Overall, the length of your credit history contributes 15% to your total FICO score.
The wider your credit accounts are distributed across platforms, the more positive the financial industry sees your account and your ability to handle potential stresses to your financial profile. It’s best to spread your credit across various options, then, like loans, credit cards, and car title loans. Credit mix accounts for 10% of your FICO score.
The new credit component measures if you are tapping new credit, for instance when you are in financial distress and you need to quickly source available and new credit to get out of a hole. One point that many people are not aware of in this context is that any inquiry of your credit score by a potential new financial source is counted as a negative against your FICO score, so it is important to remember that. The more credit applications you send out in a short amount of time, the more warning flags this is sending to the three credit bureaus and your FICO score will get dramatically downgraded without you realizing it at first. New credit overall amounts to 10% of your FICO score.
The Biggest Negatives when Trying to Maintain your FICO score
For things that you must deal with regarding the maintenance of your FICO score and to improve your credit, we can identify three main areas.
Missing Bill Payments
When you miss payments, the credit bureau system goes into overdrive and you get penalized instantaneously. The system is ranked by payment misses of 30 days, 60 days, and 90 days and more, aggressively reducing your FICO score the longer certain bills do not get paid.
Maximizing Credit to Your Available Limits
If you maximize the amount of credit you use over a given period, this sends all kinds of red flags to the credit bureaus and financial providers that you rely entirely too much on credit for your financial well-being. Your FICO score will degenerate over a relatively short amount of time as the credit bureaus flag your credit maximization. Unfortunately, this type of credit flagging is sharply on the rise during the COVID-19 crisis, as many people across the United States face serious revenue shortfalls, be it through unemployment or lower working hours.
It should go without saying that defaulting on any account will have grave consequences for your FICO score, as this shows the credit bureaus and any financial provider that you are under severe financial stress or that you are simply not playing by their rules and the rules of the contract or financial obligation you have entered. Bankruptcy and mortgage foreclosures are the worst offenders here, followed by credit card account charge-offs and car repossessions.
Inquiring for New Credit over a Short Time
The amount of credit you inquire about in a short time is another prime indicator for the credit bureaus and financial providers that you are under financial stress or that you are trying to source too much credit in relation to your income.
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