Common Mistakes That Ruin Your Score
by: Francis Achebe
Declaring bankruptcy is no small task and we hope there was a lot of thought and planning on your part prior to making that decision. There may be some other financial moves you have made, or are going to make, that at first glance may seem harmless but in the long run can really do a number on your credit. You might not realize the significant fall-out to the following seemingly insignificant financial moves. Find out your credit score here.
Keeping a Zero Balance
I know it’s been embedded in your head that you should be paying off your debts, but, paying off a credit card completely every month does not help your credit score – it doesn’t hurt it either. When you pay off your card and have a zero balance on this line of credit, it does not factor into your credit utilization ratio. This ratio is the percentage of your credit limit that is being used and factors into 30 percent of your credit score. Here is how to calculate your credit utilization ratio: Locate your credit balance and credit limit on your last billing statement. Divide the credit card balance by the credit card limit. Multiply that number by 100. The lower this number, the better. Leaving a small balance on your card each month will help to increase your credit score. Oddly, your credit score can actually drop when you bring a card balance down to zero.
Keeping a High Balance
Now on the other side of the spectrum, having high balances on your credit cards is not good for your score either. As we mentioned already, the amount you owe on your accounts determines about 30 percent of your credit score. Lenders consider those who use a low percentage of their credit, say around 35 percent or less, to be a low credit risk. And being a low credit risk means getting lower interest rates on your loans. Spending 80 to 90 percent of your available credit limit will negatively affect your credit score. As we saw in the calculations above, having a high credit card balance will equate to having a higher credit utilization ratio which will lower your credit score. Moral of the story, keep you balances low but not at zero.
Negotiate a Lower Annual Percentage Rate
Negotiating a lower annual percentage rate on your credit card may seem like a smart move for cutting expenses and boosting your savings account, but when you do, ensure that your creditor doesn’t reduce your credit limit. If that happens, it could affect your credit utilization ratio and lead to a drop in points.
Closing a Credit Card Account
If you’ve struggled to pay off a card, your initial reaction may be to cut it up and close the account. Resist the urge. Various factors are taken into account when calculating your creditworthiness and 15 percent of your score is determined by the length of your credit history. By closing an account, especially an older one, you shorten your credit history. The more established accounts you have, the higher your credit score. Credit card companies also look at how much of your available credit you are using, i.e. your credit utilization rate. As we mentioned before, they like to see 35% or less of your credit in use at any one time. Paying off a credit card and leaving it open improves your utilization score, but closing it could do just the opposite.
We are not saying to never apply for new credit, just make sure to do so very tentatively. Every time you apply for a new credit card, car loan, or cell phone plan, someone is going to pull your credit. This credit inquiry constitutes a “hard inquiry” which is likely to ding your credit score.
So, if you are looking for a good interest rate, which means you are rate shopping, make sure every lender you visit is not pulling your credit first. Make your final decision BEFORE having your credit pulled by the lender so that way there will only be one hard inquiry on your credit report.
It may seem like maintaining a good credit score is hopeless, but there are ideals you can strive for to achieve a good credit rating. Naturally, some of the above mentioned transactions are easier to avoid than others. By knowing the threat they pose to your credit, you can better understand when these moves really make sense. To sum it up:
- The ideal number of loans or credit lines open is 6 – 21.
- The ideal number of credit inquiries is 0-3 in the last 6 months.
- When shopping for the best interest rates, have the lender do a “soft pull” of your credit.
- A 5+ year credit history is ideal. The longer the credit line is open, the better.
- 5 to 35 percent credit line utilization is ideal. Again, you don’t want the balance to be zero nor do you want to have your credit card maxed out.