Your credit scores could factor into everything from mortgages, loans, and credit cards to renting an apartment or even getting a job. In short: Knowing where you stand is key to opening the right doors in life. But many of us still struggle to understand what really goes into our numbers.
For example, according to a credit score survey, roughly 50% of respondents believed that age influences their credit scores. That’s not true. In fact, demographics don’t factor into credit scoring models whatsoever.
Separating the credit myths from the facts can boost your financial know-how and help you build a good credit score.
Contrary to popular belief, checking your own credit report won’t hurt your credit scores. Requesting your credit report or checking your scores registers as a soft inquiry, which does not influence your credit.
It’s smart to monitor your credit history, especially if you’re considering applying for a new loan soon. You’re even entitled to free credit reports from each of the major credit bureaus (Equifax, Experian, and Transunion). Typically you can access your reports at AnnualCreditReport.com once every 12 months.
On the other hand, if you apply for a new loan, your scores may take a slight hit. That’s because loan applications (known as hard inquiries) appear on your credit reports and are a credit scoring factor. Keep in mind—if you’re rate shopping and make multiple hard inquiries within a set timeframe, your applications should register as only one hard inquiry.
You’ll often see commercials, advertisements, and other forms of media refer to your credit score as though it’s one singular thing. In reality, borrowers have multiple credit scores—that’s right: scores, plural.
A credit score is based on information within a credit report. Since there are many different credit scoring models and each credit bureau provides a distinct credit report, you may have multiple scores. On top of that, some account activity may not be reported to each bureau, so it’s possible for reports to differ slightly as well.
And those ever-fluctuating three-digit numbers are calculated based on complex algorithms called models. Two popular scoring models are FICO Score and VantageScore, both of which have multiple model versions for various lending situations. For example, a personal loan lender might see a different score than an auto or mortgage lender.
Ridding yourself of a credit card can seem like a wise decision. After all, what good does a piece of plastic do if it’s just collecting dust in your wallet? Actually, more than you might think.
Although canceling credit card accounts may help you cut down on the temptation to spend, don’t expect your credit scores to improve—at least not right away. In fact, canceling a card can hurt your scores because it may raise your total credit utilization rate, which is a major component of scoring models.
Your utilization rate measures your total outstanding credit balance against your total available credit. Typically, from a score perspective, the lower the utilization rate, the better. For example, let’s say you have two credit cards—one has a $3,000 credit limit and the other has a $2,000 credit limit. Now let’s also assume that the former has a $1,000 outstanding balance while the latter has no balance at all. In this case, your aggregate credit utilization ratio would be 20% ($1,000 balance divided by $5,000 of total credit).
If you canceled the $2,000 card, your credit utilization would increase from 20% to 33% ($1,000 balance divided by $3,000 of total credit) and your score would likely take a hit. In other words, just having that available credit helped cushion your utilization rate.
Unless your credit card carries an unwanted annual fee or encourages poor spending habits, it may be best to leave a credit account open—even if you don’t use it very often.
If you got a raise or moved up the career ladder recently, congratulations are in order. But unfortunately—and we hate to be the bearer of bad news—increasing your income doesn’t increase your credit scores. At least, not on its own. That said, you could apply that extra cash to your outstanding loan balances and pay down your debt. In that case, you would likely experience a score bump.
If you’re applying for a loan or line of credit, a raise can still help your chances of qualifying. Increasing your income can lower your debt-to-income ratio, which measures your monthly debt payments against your monthly income. And by lowering your ratio, you can enhance your appeal as a loan applicant in the eyes of lenders and improve your chances of qualifying for a lower interest rate and better terms.
Congratulations—you’ve paid off your debt. Though it feels good to say “sayonara” to payments, that loan isn’t going anywhere for a while—at least in terms of your credit report.
If you close an account in good standing, meaning you made timely payments and no longer carry a balance, your account activity will remain on your reports for 10 years. In this case, you actually want your debt to remain in your credit reports. A lengthy history of on-time payments can help your scores.
On the other side, if you closed a credit account with missed payments or an outstanding balance, it could stay on your report for up to seven years—and potentially weigh down your score. That’s why it’s so important to make your loan repayments on time and pay off balances in full before you close your accounts.
You don’t technically need a credit card to build credit, at least not your own. One way to build your credit score is to become an authorized user on someone else’s credit account—particularly someone with strong credit habits. The primary cardholder would still be responsible for making payments, but you’ll be linked to the account.
Your scores could benefit because the card issuer may share the account’s activity with the credit bureaus for both the primary cardholder and the authorized user. In that case, you don’t even need to use the card to build credit.
However, keep in mind, this benefit can just as easily become harmful. If the primary cardholder misses payments or carries a high credit card balance, this could adversely impact your credit report.
It’s important to manage your debt responsibly, such as making on-time payments and maintaining low balances. However, if you prefer a plastic-less lifestyle and choose to pay for things with cash (or a debit card), you might wonder if a credit score is important to your life.
In most cases, the answer is yes. Especially if you plan on renting or buying a home one day. Many landlords request to see your credit report to determine if you’re a good candidate for home rentals. If they see a history of on time payments and a low debt to income ratio, they might consider you a more qualified renter, especially when compared to someone with no credit.
Potential employers may also check your credit history. While they can’t access your actual scores, they can evaluate your general activity to see if you’re financially distressed.
Now that you’re aware of common credit myths, you may want to focus on what you can do to improve your scores. For starters, you can check your credit report and check for any discrepancies. You can access your report for free from each of the three credit bureaus once every 12 months, but if you want to see your credit scores, you’ll need to pay a fee. If you come across any errors, report them immediately.
If you have less-than-ideal credit or no credit whatsoever, don’t worry. There are several types of credit accounts that help you build your scores. Consider looking for a secured credit card or a credit-builder loan. These accounts can help you build responsible personal credit habits. Compare several credit card companies to find the most accommodating terms and best rates.
If you have debt, work to pay it off. While that’s easier said than done, you can prioritize your loans with the highest interest rates, such as credit card debt. By doing so, you can minimize your interest payments and apply savings to other loans. You may even lower your credit utilization rate and improve your scores in the process.
And last but certainly not least, pay your bills on time, every time. Whether it’s debt, utility bills, or some other line of credit, your payment history significantly factors into your credit scores, and timely payments are crucial for good credit scores. If a past-due debt becomes a collection account, that can be bad news for your scores.
Your credit scores play a crucial role in your personal finances, particularly when you have to borrow money. Though most aspects of your life—like your age and income—don’t influence your score. However, there are a few factors that all three credit bureaus take into account. Your ability to pay bills on time, how much debt you take on, and how often you apply for a new line of credit are all components you can control to impact your score.