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Most people have heard the term “credit score”.   They know it is supposed to be important but don’t always know why.  So, I’ve put together this guide to give you the information you need to know regarding credit scores.  It will cover why it is important, what affects it, and how you can improve yours, if necessary. 

Why Does Your Credit Score Matter?

Anytime a company loans you money, they use your credit score to determine the likelihood that that you will pay.  A “loan” can be anything from a money loan to a utility company that is “loaning” you their services with the expectation that you will pay them when the bill is due.  The better your credit score, the better deal you will get.  In terms of money loans, a good credit score will get you a better interest rate lowering your monthly payment and the amount you will pay over time.  For utility companies, this will lower or cancel out any deposit that might be required when the service is set up.  A bad credit score can prevent you from being approved for anything.

What Makes Up Your Credit Score?

Your Credit Score is based on several factors:

Payment History

This factor measures the amount of payments you have made on time.  It is one of the most important factors as this tells potential lenders how likely you are to pay on time in the future.  The higher the percentage that you have paid on time, the better your scores will be.  The bad news is that even a single 30 day missed payment can hurt your score significantly.  The good news is that if you have missed payments, they do eventually drop off as only the last 4 years or so are included on your credit report. 

Credit Card Use

Your credit card use is another high impact factor.  This measures how much of your credit you are using compared to your total limits.  A high amount of use reflects a high amount of debt owed which makes potential lenders leery of giving you additional credit.  The use for each card is most important but the average use across all cards affects your score, too.  The best bet to keeping a good credit score is to keep your use under at least 30%.  But for the best score, keeping it under 10% is the best option.

FYI – Banks tend to report your info once a month.  So, if you’ve just paid your bill, you may not see it reflected on your report until a month later.

Derogatory Remarks

These are remarks on your account from collection agencies or public records.  These also have a high impact on your score.  It is best to avoid these as they can stay on your record for 7-10 years.

Age of Credit

Your Age of Credit is the average length of time you have an established credit history.  The longer you can show that you have used credit responsibly, the better your score will be.  Avoid closing cards, if possible, as their available limits will help lower your usage percentage and will keep your average age of credit higher.  Sometimes, cards that haven’t been used in a while will be closed by the company that issued it.  Using the card for a purchase every now and then will prevent this from happening.  However, some drop-offs can’t be avoided such as student loans or mortgages that are paid off.  Eventually, those will fall off your report and you will no longer have that particular credit history that was tied to them.  Therefore, you could see your score drop a little when that occurs.

Total Number of Accounts

This is the total amount of credit accounts you have.  Having a lot of different types of credit accounts, preferably 11 or more, is a good thing to have on your report.  It shows that lenders like you and, if used responsibly, also shows that you can handle a large amount of credit well.  This has a low impact on your score but it’s still important and another reason why you should avoid having too many of your accounts closed.

Hard Inquiries

This is another low impact factor and reflects the amount of times your credit has been pulled for things like credit applications.  You’ll want to keep these to a minimum.  Your score usually bounces back after about 3 months.  However, it’s a wise idea to minimize hard inquiries as much as possible for about 9-12 months before applying for a mortgage or another big loan.

What Can Hurt Your Credit Score?

As mentioned above, several factors can hurt your score.  Having a large number of missed or late payments, using over 30% of your available credit at any given time, and having derogatory remarks from collection agencies can all contribute to a low credit score.  You should always handle your credit responsibly and in a serious manner if you ever plan on making a large purchase like a home or need a loan to start a business. 

How Can You Improve Your Credit Score?

A low credit score can take some time to improve but there are a number of things you can do to help get it there.  First, and most obvious, make sure you are making all your payments on time.  In the event that you are late or think you might miss a payment, contact your credit agency and see if there is anything that you can do to keep it from being reported.  A lot of companies will work with you so you can avoid collections and there is usually a grace period for late payments.  Second, do what you need to do to lower your balances and get them below the 30% usage threshold.  This will go a long way to raising your score. 

If you don’t already have credit in one form or another, make sure to get some to start establishing a credit history.  Even if you would prefer to avoid credit cards and loans, you will need to have some history of responsible credit use in order to get a mortgage, car loan, etc.  Further, always take the time to pull your credit report at least once a year, preferably more often, to check for discrepancies.  It is always possible that something gets reported wrong and you will need to dispute it as soon as you see it so it doesn’t continue to affect your credit.  Reviewing your credit will also alert you to any fraudulent use of your credit or identity theft.