Credit score

How To Understand and Improve Your Credit Score

In an economy primarily driven by credit, it is relatively hard to get by without it. Everyone has debts, even the banks that lend them. Most people have achieved a lot through credit, from taking loans for college studies, purchasing a house on a mortgage, and even getting a car loan. It, therefore, comes as no surprise that there is a score that represents your creditworthiness.

A credit score is a calculation based on several factors that lenders use to determine whether you should be offered credit. It is an important concept, and anyone who operates in any way on credit should be aware of their score.

This article discusses the concept of a credit score, how to know yours and how to improve it. Read on for more food for thought!

What is a credit score?

Financial experts developed the concept of a credit score to rate how much you deserve credit. A credit score is a number that rates your creditworthiness on a scale of 300 – 850. The higher you are on the scale, the better your chances of getting credit. However, it is also relatively harder to go higher.

Your credit score predicts how likely you are to pay back your debt. It is based on several factors (to be discussed in the next section) regarding your financial history. It is, therefore, only natural that one of the most important financial goals for anyone, aside from getting out of debt, is to maintain a good score.

Generally, maintaining a good credit score places one at specific financial advantages. For instance, insurers may use it to calculate premiums for covers such as homeowners and auto. You stand to pay less if you pose less credit risk.

Factors affecting credit score

Five factors are taken into account when calculating your credit score. They include your history of paying back debt, your history of using credit, the amount of debt you have been taking, the types of credit you’ve had and any new or recent debts. Let’s discuss each one:

1. Debt Repayment History

Your past borrowing history is examined to convince lenders that you are worthy of credit. If you have generally been repaying debts in the correct amounts and on a good time, you are considered less of a credit risk. Here are some aspects of your repayment history that will be taken into consideration:

  • Proper payment in due time
  • If late, how much longer does it take to pay?
  • Legal issues, e.g. bankruptcy, foreclosure, charge-offs, liens, attachments and lawsuits.
  • Accounts in collections

Typically, your repayment history accounts for up to 35% of your credit score.

2. Amount of debt

To determine if you should be lent, the financiers also assess the amounts of credit you’ve taken out. The amount of debt is compared to your current credit limit, and a decision is reached based on answers to questions such as:

  • How much is owed to accounts like mortgage
  • How much of your credit limit have you already utilized

This can sum up to 30% of your total credit score.

3. History of credit

If you have been taking credit for a long time, without issues like late repayments, it builds an excellent reputation among lenders. It gives the impression that you will continue paying back as well as you have. On the other hand, a short history increases unpredictability and makes you a more significant credit risk. If well maintained, however, a brief history can also allow a good score.

4. Types of credit

Generally, the more types of credit accounts you have, the better the consideration. This includes accounts like mortgages and credit cards. This, however, often accounts for less than ten per cent of your score.

5. New credit

When you apply for a new type of credit, the financers or lenders often conduct a new assessment of your credit situation. This is usually a stage in the underwriting procedure, often referred to as a hard pull. A hard pull temporarily causes a dip in your credit score. It is advisable to wait a while after opening an account in a new line before applying for credit.

Impact of a credit score

You want a good credit score if you plan on taking on any debts in the future. It measures on the lender’s scale how much they should trust you to lend you any money.

A good credit rating can seriously open doors for you. Not only do you have better access to higher loan amounts, but you may also enjoy better borrowing terms and easier loan approvals. You can easily access mortgages, car loans, and business loans and even pay less in insurance premiums.

Your credit score also affects your insurance score, which means that you may have difficulty accessing policies such as life insurance if yours is poor.

How to improve and maintain a good credit score

1. Credit utilization

Credit utilization refers to the amount of your credit limit that you use. Generally, the less you use, the better your score is likely to get. Financial experts advise that you use less than thirty – some people with the best credit scores have less than 7% credit utilization.

2. Credit reports

To get to the root of your problem, you must first understand it. First, you should request your credit report from any of the three institutions that offer the service officially (Transunion, Experian and Equifax). You should read them extensively and find out what has been hurting your score. You can also check for any inaccurate additions or debts you may have forgotten about.

3. Credit limits

As discussed previously, the less of your credit limit you use, the better your score gets. You can request higher limits (without necessarily taking out more credit) to even out things on this end.

4. Debt repayment

Out of the five factors discussed above, your repayment history carries the most weight in calculating your score. If you have a habit of repaying debts late, you may need to work on that. You can list them all out, group them according to priority then allocate a specific amount to their repayment in intervals. You can also follow this with good financial practices such as budgeting and saving. Debt repayment is an essential step in attaining financial freedom.

5. Credit piggybacking

This is the process of adding someone else’s credit account to yours for the shared benefit of good credit.

If you know someone with excellent credit (who trusts you), you can request to be added as an authorized user to their account. This does not mean you get to use their credit; their great credit history boosts your own.

This will work great if your account is relatively new but may bear less impact on an established account with a long-standing history of credit.

6. Credit requests

If you can, consider reducing the number of new credit requests you make. Each one is paired with a hard inquiry (as discussed above) which lowers your score every time. In conclusion, your credit score is significant, and you should always observe the best financial practices to maintain it. Remember to pay back your debt in time and consider any adjustments you can make to use less of your limit. A good score opens many financial doors and will help you realize your goals faster. Be sure to check out CrazyMoneyFacts.com for more information on how to improve your credit score!

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