Do you find yourself getting turned down for loans due to low credit scores? We understand how frustrating it is, but it doesn't have to be that way.
You can take comfort in knowing there are options to boost your credit rating and get your desired loan.
The better your credit score, the more attractive you are as a borrower, and the easier your life will be when applying for new loans. This allows you to live life without limitations due to debt.
Below, we’ll break down five factors that affect your credit score into easily understandable chunks along with other helpful advice that you can take to improve your credit rating.
Let's get right to it!
What Is the Purpose of Credit Reports and Credit Scores?
Data in your credit reports and credit scores help determine the terms of your loans and other forms of credit accounts. Typically, good scores can make it easier to get a loan at competitive interest rates.
There are several credit scores, but creditors often use the FICO score. You can also claim a free credit report at AnnualCreditReport.com once every 12 months.
Credit scores range from 300 to 850. The lowest possible credit score is 300, while the highest is 850. Depending on your score, credit bureaus classify your rating as follows:
- Fair — 650 to 659
- Good — 700 to 749
- Excellent — 750 and above
However, did you know that only 22.3% of American consumers have credit scores of 800 or above? In addition, 11.1% of U.S. consumers have poor scores, specifically below 550
5 Key Factors That Affect Your Credit Score
If your credit score is low, there's no reason to panic or despair. Check out the following factors that may be contributing to your low score.
1. Payment History — 35%
With a whopping 35%, payment history is the most critical factor in credit scoring. Even one late payment can affect your score.
Lenders choose their borrowers carefully and want to be sure that you’ll repay your debts on time. When looking at your credit score, they usually note the following criteria:
- They consider the consistency of your payments and whether or not you pay your bills on time.
- How long were you late in paying your account? Lenders usually look for late payment periods of 30, 60, or 90 days. The later you’ve paid, the more points you’ll lose.
- Accounts that have been sent to collection agencies (if any). This can make a lender wary, as it may indicate that you aren’t reliable.
- Do you have any unpaid debts, lawsuits, bankruptcies, or judgments against you? These items on your credit report are risky to lenders.
- Credit unions and providers also look for the time since the last negative event and the frequency of missed or late payments. For them, someone who missed several payments years ago is less risky than someone who missed a payment recently.
2. Credit Limit Usage — 30%
Your credit utilization is the next most important ingredient in your credit scores. The credit utilization ratio represents the amount of debt you currently have versus the total amount of credit available to you.
A rule of thumb is to keep your credit card spending at 30% or less of your total limit. A little debt is better for creditors to see that you’re responsible and financially stable enough to pay it back.
If you have high balances or too much debt, it could affect your credit score. However, you can improve it quickly by paying off your outstanding balance.
3. Age of Your Credit History — 15%
How many years have you been using your credit account? Usually, credit bureaus look at the average age of all your accounts when calculating your score.
If you have an older credit history without any late payments or other negative items, it's an advantage. Meanwhile, a short credit history can be as good as a long one if you've made your payments on time and don't owe too much.
4. Latest Credit — 10%
Besides history, FICO looks into the number of new accounts you've recently opened. They also consider the number of times you made credit inquiries.
Each time you make a new inquiry, your credit score goes down. You can do it a couple of times, but several times within a short time can adversely affect your score.
Be aware that even if you're denied or decide against the loan or credit card, it still counts as an inquiry. This can affect your score by five points or less and stay on your report for up to two years.
5. Credit Types — 10%
The final factor in the FICO score formula is whether you have a mix of different credit accounts. They also look at the number of accounts you may have.
Generally, consumers with good credit scores have diverse accounts. For example, whether they have a car or a student loan, credit card, and mortgage.
Since this only takes up 10% of your overall score, don't worry about not having accounts in each category. You don't need multiple accounts to have a good score!
Factors That Don’t Affect Your Credit Score
Income, bank balances, and employment status can help in loan approval. However, they don't directly influence the credit score formula.
The following are full examples of things that don't affect your credit rating:
- Rent and utility bills: Rent or utility payments don’t count toward your score. However, if you fail to pay your utility bills and your provider sells them to a collection agency, it can negatively affect your score.
- Knowing your credit score: You can check your credit report as often without affecting your score.
- Bank balances: Any balances you have on your savings, investment, or checking accounts won’t impact your score. Debit or prepaid card usage doesn’t influence it either.
- Income or employment status: A credit report includes information about your employment, but it's used only to match account data to the right person. You can still build a good credit rating with an average or low income.
- Race or ethnicity: Your race, ethnicity, or national origin can never impact your credit score.
- Gender: Man or woman, your gender doesn’t have a say in your credit rating.
- Age: Your age has no bearing on your score, too.
What Can Hurt Your Credit Scores
Here are some actions that can hurt your credit score.
- Defaulting Payments: Your payment history accounts for 35% of your credit score. That’s why even one missed payment can have a big impact.
- Maxing Out Your Credit Usage: High credit utilization can signal lenders that you're too dependent on debt. Using 30% or more of your available limit can seriously damage your credit score.
- Several Credit Applications in a Short Time: Hard inquiries remain on your credit report for two years, which can temporarily lower your score. Too many inquiries in a short period are a sign that you're in financial trouble or have been denied credit.
- Account Delinquency: Sometimes, life happens, and you can’t avoid foreclosures, bankruptcy, or unsettled accounts. These can severely hurt your credit rating for years, jeopardizing your ability to qualify for future loans.
- Minimal Credit History: If you're new to credit or without a long history, your credit score could be lower than average. Closed old accounts can help, but after 10 years, they’ll fall off your report, resulting in your score declining.
How to Improve Your Credit Score In 6 Steps
Getting back on the road to a good credit score takes time and effort. However, there are things you can do to help boost your score over time.
1. Get & Review Your Credit Report
Have you gotten your annual credit report yet? A good step is to request a free copy of your annual credit report and get a better idea of its contents.
If you discover inaccuracies, you can dispute them to the reporting bureaus. A single negative piece of information can hurt your score, so it’s best to monitor and work towards improving it.
2. Pay Down Debt
Rather than carrying a balance or paying just the minimum on each account, consider paying off your accounts monthly.
This will drastically reduce your credit utilization ratio and help your score grow.
3. Settle Your Bills On Time
Your payment history weighs a lot on your credit score, so it's critical to ensure you pay your bills on time. Defaulted payments stay on your report for up to seven years, and the longer it takes you to pay off your bills, the greater the damage.
To avoid missing payments, you can set up autopay or calendar reminders!
4. Don’t Max Out Your Credit Limit
We recommend utilizing no more than 30% of your available credit limit. If you can, using much less than that is even better.
For low credit utilization, consider setting balance alerts or making extra payments. Once you pay off a large debt and the provider reports it to the credit bureaus, your score will improve significantly.
5. Keep Old Accounts Open & Address Delinquencies
Having an old account is a positive factor in your credit score. The older the average age of your credit accounts, the more attractive you are to lenders.
As such, we recommend keeping your old credit accounts open even if you don't use them. Also, closing a card while you have balances on other cards will lower your credit score.
In addition, take action to resolve any delinquent accounts, charge-offs, and collection accounts. You can make plans to fix issues and strengthen your score.
6. Limit Credit Inquiries
If possible, limit the number of times you apply for new loans. This will keep the number of hard inquiries in your record low.
Hard inquiries reflect on your credit file for two years, but their impact on your scores will lessen over time.
What If I Don’t Have a Credit History or Credit Score?
Did you know that one in 10 Americans don’t have a credit score? As mentioned above, you can try some ways to build your credit history.
Apply for a Secured Credit Card
Secured credit cards are a good option for people with bad credit or no credit history. Like a traditional credit card, you can use them to pay for essential purchases.
These cards usually require a security deposit to open, which can double your credit limit. This helps protect the card provider from defaults, making them more comfortable lending to people with a less-than-perfect credit history.
Once you have it, use it responsibly by paying your bill on time each month. This will help you establish an excellent credit record quickly.
Get a Credit Builder Loan
Like a secured credit card, a builder loan allows you to get a loan against your savings deposit. It allows you to demonstrate your ability in making on-time payments.
Many banks and credit unions like 121 Financial offer such types of loans that can help build your credit history. They’ll report your payment history to credit bureaus every month.
Be an Authorized Card User
Do you know someone with a good credit history? Perhaps you can ask them to add you as an authorized user. Here, you’re given a supplementary card and spending privileges on the cardholder's account.
Credit card issuers report authorized users to credit bureaus, which can help improve your score.
As long as the account holder observes good credit habits, you should benefit, too. This can help build your credit history while giving you access to their credit line.
What Types of Accounts Impact Your Credit Score
As you cultivate a healthy credit report, you should know that there are two critical types of accounts for calculating credit scores. These are revolving and installment loans.
- Revolving credit account: This involves borrowing against your available credit limit. Examples are credit cards and equity loans.
- Installment credit account: This includes auto or student loans, mortgages, and any loan where you must pay a fixed amount each month.
Wrapping Up
Above all else, a good credit score can make it easier to borrow money when you need it most. In addition, it gives you the ability to qualify for favorable credit accounts.
Improving your credit score isn't easy, but it doesn't have to be a monumental struggle either. We hope the information above will help you put yourself on the right track to raising your credit rating.
If you want to learn more about credit cards or finances, you can reach the experts at 121 Financial. We provide various services that can help you reach your financial goals.