Developing a Plan to Improve Your Credit

Credit score is a number that can hold a lot of sway over your life. A good or bad credit score can mean the difference between being approved or denied for a loan, mortgage, car lease, or credit card. It can determine the amount of interest you’re charged on your lines of credit. It can influence decisions made by employers, insurers, and landlords. All in all, maintaining a good credit score is just as important as other necessities of life, like keeping yourself healthy, buying car insurance, and paying taxes.

Whether you’re just getting started on building up credit or trying to improve your score, this road map should provide some guidance.

Checkpoint One: Find Your Starting Line

Your first milestone for improving your credit should be to check your credit score and pull a credit report.

• Request your credit report.

  You can request a credit report for free once a year from each of the credit agencies: Equifax, TransUnion, and Experian. Because the three agencies pull their information from different sources, it’s important to keep tabs on all of them. The Federal Trade Commission recommends that you spread out your requests throughout the year, so that you can monitor your reports for suspicious activity. You can request your report at Annual Credit Report. Take note that this is the only site authorized to provide your credit report. The FTC warns that other websites may try to sell you other services or charge you a service fee for accessing your report.

  Your credit report will include information such as your bill payment history, loans, current debt, where you work and live, and whether you’ve been sued, arrested, or filed for bankruptcy. Keeping tabs on this information is an important part of preventing identity theft. To protect yourself and your children further from identity theft, you can add an endorsement to your homeowners insurance.

• Check your credit score.

  Your credit report won’t include your credit score. To check your credit score, you can create an account with a free service like Credit Karma. Alternatively, some credit card companies will provide you your credit score as part of their services. One thing to note about credit scores is that each type of financial institution that uses them calculates them slightly differently. As a result, your Credit Karma score might be much higher than the FICO credit score your credit card company uses. FICO is generally the baseline, though. A good FICO credit score is above 680; an excellent one is above 740.

There are five parts to your credit score. To improve your credit score, you’ll want to consider all of these parts.

Checkpoint Two: Check Your Rearview Mirrors

The first part of your credit score (35%) is your payment history. This is determined based on whether you keep up with your bills or let a balance become overdue.

• Pay your bills on time.

  Of course, there’s no way to go back in time and remind ourselves to pay our bills before they became overdue. Moving forward, you’ll need to ensure that your future bills (including credit card bills, student loans, auto loans, and even costs like rent payments and utility bills) are paid on time. Prioritize paying off debt rather than moving it around.

• Maintain a budget.

  Nerdwallet recommends the best budgeting apps to help you keep on top of your responsibilities. If apps aren’t for you, consider maintaining a spreadsheet or setting up automatic payments.

Checkpoint Three: Weigh Your Resources

The second part of your credit score (30%) is your Credit Utilization Rate, or the ratio of how much credit you have compared to how much you use.

• Reduce your credit use.

  You should only use about 30% of your available credit. If you’re using more than that, look into where you can cut back. For example, if your credit limit is $10,000, you should maintain a balance of $3,000 or less. When considering a new purchase, research what you can afford with this lower limit in mind.

• Keep track of your credit use.

  Your credit utilization rate is based on all sources of credit. So, if you have more than one credit card, your credit limit is the sum of each card’s limits. Keep track of your ratio with all your cards’ limits in mind. You can keep tabs on your limits by tracking the amounts you charge to each card and setting up balance alerts.

• Consider paying more often.

  One way to exceed the 30% utilization, without impacting your credit score, is to pay your balance mid-cycle. If you don’t carry the extra balance over between billing periods, your credit card issuer won’t report your use negatively.

• Consider requesting higher limits on your cards.

  If you need to exceed the 30% threshold, you can raise the credit limits on your cards. This will likely result in a “hard hit” to your credit report, but in the long term could help improve your score.

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Checkpoint Four: Check Your Mileage

The third part of your credit score (15%) is the length of your credit history. Your length of credit history is determined by three factors: how long each account has been open, how long each account “type” has been open, and the length of time since you’ve last used each account. Length of credit history helps to mitigate the effects of a missed payment on any of your credit lines.

This factor can make it seem harder for someone to build credit if they have no credit history. If you have poor or little credit history, you have a few options.

1. You can get a secured credit card, which has you pay a security deposit up-front. Your initial deposit is your credit limit, and as long as you pay your bills on time, you’ll eventually get your money back.

2. Alternatively, you can open a joint account or become an authorized user on an account.

3. In some instances, you can even use your rent payments and utility bills as evidence of low risk.

Don’t close old credit cards, even if you’re not using them anymore. Closing a credit card will remove that card from your credit history, negatively affecting your credit score. It can also distort your credit utilization ratio, affecting your credit score in unexpected ways.

Checkpoint Five: Take It Slowly

The fourth part of your credit score (10%) is new credit accounts. Applications for credit show lenders that you are out actively searching for credit. “Hard” inquiries from lenders stay on your credit report for two years and affect your credit score for 12 months.

• Don’t be too eager to open many accounts at once.

  If you don’t have a long credit history but apply for multiple types of credit all at once, a lender will consider you a higher risk. Therefore, your credit score might go down if you open too many accounts too quickly.

• Shop for the best rates.

  Applying for multiple credit cards at once can impact your credit score. However, applying for a car loan or mortgage from multiple lenders at once is encouraged so that you can shop around for the best rates. As a result, multiple inquiries from mortgage or auto lenders will only be treated as a single inquiry.

• Weigh the advantages and disadvantages of opening a new account.

  Opening a new credit account might be necessary for you to start building credit, purchase a car, or buy a new home. It is likely that your credit score will go down when you open the account. However, by paying your bills on time, you can raise your score over time.

Checkpoint Six: Explore New Avenues

The final part of your credit score (10%) is the mix of types of credit that you have. Three types of credit affect your score:

1. Revolving credit: credit lines with limits and interest charges on your balance. Credit cards and home equity lines of credit.

2. Installment Credit: loans with a fixed payment schedule. Mortgages, student loans, car loans, and personal loans.

3. Open credit: credit lines with limits and a requirement that you pay what you borrow in full each month. Charge cards.

Another type of credit is service credit, which encompasses your utilities, landlord, mobile phone, and other monthly bills. This does not affect your credit score, but can be used to supplement a credit report if you have limited credit history.

You should not apply for a different type of credit if you don’t need it. However, maintaining a mix of credit types can show lenders that you can reliably manage several different accounts.

Checkpoint Seven: Keep Your Eyes on the Road

Improving your credit score takes time and effort. However, by exercising patience and diligence, you can improve your score and make that big purchase you’ve been planning. For everything you need to know about buying a car, home, or second home, NJM is here to help. Check out Life Events for guidance on navigating the exciting periods in your life.

This article has been prepared for informational purposes only, and is not intended to provide, and should not be relied on for, tax, legal or accounting advice. Please consult your own tax, legal and accounting advisors before engaging in any transaction.

Resources:
Annual Credit Report.
Credit Karma.
Nerdwallet.
USA GOV.
myFICO Blog.
Consumer Information.