Your credit score says a lot about you. It’s the first impression of the financial world. And you don’t have to be in the market to buy a house or a car for it to have an impact on your bottom line. Read more to learn how proven steps you can take to improve your credit score.
Why is your credit score important?
While having a high credit score doesn’t necessarily mean you’re in a good financial position, it does have a direct impact on your finances. You may think your credit score only matters when you’re buying a house or a car, however it can determine the amount of deposit required on your electric bill, whether you’re approved for an apartment by a potential landlord, or to determine your level of risk as determined by an insurance company. Even a potential employer may make decisions about you based on your credit score.
What is a good FICO score?
A FICO score is a measure of consumer credit risk. FICO (Fair Isaac Corporation) is one of the most common credit-scoring models and ranges from 300 to 850. It’s the one we’ll be focused on in this article. The higher your credit score, the better.
“A FICO® Score above 670 is considered a good credit score…and a score above 800 is usually perceived to be exceptional.” – Experian
What impacts your credit score?
Your FICO score is unique to you based on your reported financial history. In order of importance, your credit score is impacted by the following:
- 35% payment history – how well you’ve paid your debts in the past
- 30% debt to equity ratio – how much debt you have relative to your available balance
- 15% length of payment history – how long your credit has been established
- 10% new credit inquiries – how often you apply for new credit
- 10% credit mix – how many different types of debt you have (mortgage, credit card, retail accounts)
Now that you know why it’s important to have good credit, what determines a good credit score, and what impacts your credit score – let’s talk about seven proven steps you can take to improve your credit.
7 Effective and Actionable Steps to Take to Improve Your Credit Score
1. Obtain a copy of your credit report and thoroughly check it for errors. Legally, you are eligible to receive a free credit report each year; one from each of the major credit bureaus – Equifax, Experian, and TransUnion.
Finding errors and incorrect information on your credit report is more common than you would expect. Examples include duplicate accounts, accounts that don’t belong to you, and inaccurate personal information such as your address or date of birth.
Once you’ve identified any errors, dispute this information with all three bureaus. You can do this online, but I recommend sending a letter via certified mail as a back-up to any details you submit online.
Most of the services are free, although they do offer paid services such as notifications when your credit report changes or protection against identity theft. You may find these to be valuable depending on your financial situation.
3. Improve your credit utilization ratio. Lenders want to know that you’re disciplined enough not to max out all available credit. Your credit utilization ratio determines how much debt you’ve utilized relative to your total available credit.
For example, if you have only one credit card with a credit limit of $25,000, and you owe $2,500, your debt to equity ratio is 10%. You want to aim to keep this metric under 30%.
Improve your credit utilization score by paying off your credit cards in full each month. If you’re not in a position to pay off existing debt, refrain from charging anything new and be as aggressive as you can on your repayment plan. Additionally, contact your credit card company to request an increase in your credit limit. Lastly, stay away from retail credit card offers at department stores that lure you with a large discount. These cards typically offer a low credit limit combined with a large purchase.
4. Don’t miss a payment. Your payment history makes up the lion’s share of your credit score. Missing a payment can have a severe negative impact on your score. Do whatever it takes to make sure you pay on time. A best practice is to set up automatic payments. If this is not an option for you, set an alarm on your calendar or phone.
5. Don’t apply for new credit. Applying for new credit can be tricky. While it can positively impact your credit utilization score by increasing your available credit, it will also increase the number of new accounts you have which shortens your payment history.
In truth, opening a new account isn’t going to dramatically impact your credit score. But opening multiple new accounts in rapid succession can.
6. Don’t close any old accounts. Since the length of payment history is 15% of your total score, it’s wise to keep your older cards or lines of credit open. If you’ve been working to pay off your debt and you’ve reached a point where you’ve paid off a credit card, don’t be so quick to close the account. Let it age out a little bit.
However, your credit score also takes into account how long it has been since you’ve used an account. Couple that with the fact that some credit cards will automatically close if there is no activity for a specified period of time. To get around this, set up a monthly recurring charge, such as your gas or electric bill, to your card and then set up an auto-draft from your bank account to pay it off immediately.
7. Make your payments strategically. This step can be a more complex step to take, but it’s one with a big punch. First, pay your credit cards with the highest credit utilization score. If you have one card with a 70% ratio, and another with a 20% ratio, focus on the card with the 70% score, even if it has a smaller balance. This will bring down your credit utilization score.
Second, contact your credit card company and find out when they report to the credit bureaus. Your payments should be made prior to this date to ensure your score is calculated on the balance after the payment.
Take action on each of the steps above. You can start to see improvement as early as in the next 30 days, but significant improvement is a long game and it will take time. Be diligent and focused. And be wary of any company that offers to fix your credit fast. It’s likely a scam.
What steps are you taking to improve your credit score? Let us know in the comments below.