Understanding what influences your scores is the first step to managing a credit profile. Most people have absolutely no idea what effects the score movements. There are very specific things that you can do to improve your credit score. Here is what you need to know:
ON TIME PAYMENTS
Your scores are a combination of multiple factors, not just whether or not you make on time payments. While timely payments has the largest influence on the scores as a whole the effect is slow and takes place over years not months. A solid profile shows no lates for the entire 7 year profile.
REVOLVING DEBT BALANCES
Credit cards are a revolving debt. This is defined as any account that has a credit limit that you can use, pay down, and use again (except an equity line which is secured by real estate). The balances you carry on these accounts directly effects your score movement, and at a more dramatic level. Your balances are compared to the credit limit of the account to establish a DEBT-LIMIT RATIO. This is the credit limit divided by the balance of the debt. (i.e. $1000 credit limit with a $500 balance has a 50% debt-limit ratio). This is an important factor to understand and manage. The higher the debt-limit ratio the lower the scores will drop! Optimally you should keep these accounts below 30% of the credit used. Higher ratios indicate potential risk for lenders and will subject you to higher rates and potential disqualification. Debt-limit ratios are the easiest item for you to manage and improve credit scores quickly. Pay down the cards…period.
Having 1 or 2 low credit limit cards with no other credit will not be enough to qualify for most home loans and many other forms of credit. A diverse profile includes a few revolving accounts, an installment loan (car loan or any fixed payment loan), and a real estate account (mortgage or home equity line). Having this diversity with on time payments and low debt-limit ratios on revolving debt will produce the highest possible scores. It’s fairly easy to get a credit card and a car loan. That handles 2 of the 3 major types of accounts. Managing them properly with on time payments and keeping revolving debt down will put your credit in position to qualify for a mortgage should your income qualify.
AVERAGE AGE OF ACCOUNTS
Again, this is a part of the scoring component that has its affect over a long period. Over time, if you are maintaining your accounts and keep them active your profile will show an average age that is higher and this will have a small impact on your overall scores. As a result, opening a new account can actually shift scores slightly lower as this new, untested account is added to the profile.
APPLYING FOR CREDIT – NEW ACCOUNTS
This is the number 1 most misunderstood factor that has a direct and immediate effect on scores. Each time you apply for credit an INQUIRY appears on your credit profile for all other lenders and creditors to see. If it results in a new account then you will almost certainly see a mild score pull back as described above. However, if it does NOT result in a new account it raises a flag as to why. Again, each subsequent creditor that pulls the report can see that you applied and either there is a new account that doesn’t show yet, or you were denied credit. In either case, it causes issues with approvals for home loans, ANY business credit etc. The biggest violator of this factor is auto finance applications. Dealers commonly will not disclose that they will have 5 different banks pull the credit resulting in 15 total inquiries between the 3 bureaus! This will drive scores down as the number of inquiries takes its toll on recent activity. Also, if you were denied credit…STOP APPLYING! Trying elsewhere is only digging a deeper hole.
Lastly, its important to understand that RECENT activity outweighs EVERYTHING. With that said, if new collections appear, your current balances on revolving debt moved up, you are late, or apply for too much credit etc. your scores will take a hit. Its up to YOU to manage these issues if you expect to have a solid credit rating.
I have discovered that those who need this information most are the last to read it. So if you read the entire article you are already ahead of most. Put it to good use and it can change your life.