By Caren Poletti Williams, CPM®
Financial Advisor and Senior Vice President, Morgan Stanley
Your credit score, a 3-digit score ranging from 300 to 850, indicates to lenders the risks they may be incurring in extending additional credit to you. Your score will affect not only a lender’s decision to approve you for additional credit, but also the terms offered. According to Morgan Stanley’s “The Playbook: A Millennial’s Guide to Life & Money,” your score may be listed as Bad (300-629), Average (630-689), Good (690-719), or Excellent (720-850).[i] An individual with an Excellent or Good credit score may be offered a more favorable interest rate than that offered to individuals with Average or Bad credit scores.
How can you find out your credit score? You can request a free credit report annually from any of the three credit bureaus: Experian, Equifax, or TransUnion. While requesting a free copy of your credit report will not impact your credit score, be aware that numerous credit inquiries by third parties may negatively affect your score.[ii] Therefore, it’s best to only allow a vendor to pull your credit when you really need it.
What factors impact your score? Your score is impacted by several items.[iii]
- Payment History – Your payment history has the greatest influence on your credit score. Therefore, be sure to pay your bills on time, especially your credit card bills.
- Credit Utilization Ratio – This is calculated by the total amount you have borrowed vs. the total amount of credit which has been extended to you. If you have total debt balances of $5,000 with $10,000 of total available credit, your credit utilization ratio is 50%. The lower the ratio, the better.
- Length of Credit History – The longer you have established a credit history, the better.
- Total Open Lines of Credit & Types of Credit Used – Your credit score is based on the various types of debt you may have, such as an auto loan, student loan, credit card balance, mortgage, or home equity line of credit.
- Number of Credit Inquiries – As stated earlier, it is best to minimize vendors’ credit inquiries to avoid a negative impact.
What steps can you take to maintain or improve your credit score? “The Playbook: A Millennial’s Guide to Life & Money” recommends the following actions:[iv]
- Avoid late payments. Any bills you pay late may adversely impact your score.
- Avoid cancelling credit cards. Cancelling a card will reduce your total available credit, which could adversely impact your score.
- Avoid applying for several credit cards at once. Several inquiries in a short time period may negatively impact your score.
- Automate your payments. This will help you avoid late payments.
- Make copies. Give a copy of your credit score to vendors who might need it, instead of authorizing them to make a credit inquiry.
- Stay below a 30% credit utilization rate. Remember the lower, the better
- Be cautious when co-signing a loan. Even when you aren’t the primary borrower, the payment history will impact your score as well, if you co-signed for the loan.
- Review your credit report annually. Reach out to the credit bureau and vendor immediately to address any mistakes you find on your report.
These rules apply whether you are just starting to build credit or you have had a credit history for several years. Sticking with them will allow you to improve your chances for maintaining an Excellent or Good credit score and receiving favorable terms for new applications of credit. Unfortunately, if you have a Bad credit score, it may take years to get back to a Good score; therefore, it’s best to try to avoid falling prey to over-extending yourself in the first place. The above guidelines are a good place to start.