You probably know that your credit is a big factor in getting a loan, but you may not realize just how much of an impact it can have on all aspects of your financial life. Your credit can influence everything from interest rates and insurance premiums to apartment rentals and even job eligibility.
The good news: You don’t have to earn a high income or be flush with cash to have great credit.
“The most important thing you can do is make your payments on time and don’t take on too much credit card debt,” says John Ulzheimer, the credit expert for CreditSesame.com.
Meanwhile, it doesn’t take drastic measures to improve your credit scores over time. Here’s what you need to know.
First, understand how it works
Simply put, your credit history reflects your track record for paying back loans, as well as your current debt levels and access to credit. Three different credit agencies — Equifax, Experian and TransUnion — collect information pertinent to your credit record and keep it in a credit report. With your permission, lenders, landlords, insurers and employers can access these reports.
These reports are also the basis for your credit score, which is a numerical snapshot of your creditworthiness. The most widely-used credit score is the FICO score, which ranges from 300 to 850. You have three different scores, one associated with each of the three credit agency reports. Borrowers with scores above 750 are generally considered excellent, while scores below 650 are considered poor.
Check your credit reports
With so much riding on your credit history, it behooves you to check all three reports annually. You can do so for free once a year at AnnualCreditReport.com. At the same time, you’ll want to make sure the details in the report are correct and legitimately reflect your borrowing activity; suspicious activity may be a sign of identity theft.
If you find an error in any of the reports, you’ll want to go through the necessary steps to remove it or update it. You should start by contacting the lender or creditor that reported the inaccurate information and asking them to update your account. Depending on the nature and severity of the error, you may also want to contact the credit bureaus directly.
Sure, it’s a hassle but, considering what’s at stake, also time well spent. “You can improve your credit score considerably just by correcting negative information,” said Ulzheimer.
Keep track of your score
Unlike your credit reports, you’ll need to pay to see your FICO or other credit scores unless you get it from a lender or other service that pulls your score in the regular course of business.
Given how much is riding on this number, it’s worth paying for once a year. You can access one score — plus an explanation of your score — for $19.95 at MyFICO.com. Assuming that the information in all three of your credit reports is correct and consistent, one number is sufficient.
Fair Isaac, the company that calculates FICO scores, uses a complex formula for coming up with this tally. In a nutshell, however, the numbers are based on whether you pay your bills on time, how much of your available credit is outstanding, the types of loans you have and how long you’ve had them.
Pay your bills on time
The single biggest influence on your credit score is whether you’ve made your loan payments and done so on time, says Anthony Sprauve, FICO’s senior consumer credit specialist. “Your payment history is 35% of your score,” he says. “It’s the biggest slice of the pie.”
In fact, according to FICO, 96% of people with excellent credit (scores over 800) pay their bills on time.
Keep in mind that this number only reflects payments as they relate to your credit report, says Ulzheimer. If you consistently pay your utility bills, for example, that won’t influence your score.
Your best defense: Set up automatic payments for the minimum amounts to make sure you’re never tardy.
Keep balances in check
The second biggest factor in your score is credit utilization, which is the percentage of your available revolving credit (i.e. credit cards) that is being used. This accounts for 30% of your score. Consumers with the best credit scores use just 7% of their revolving credit lines, according to FICO, but anything below 30% is generally considered acceptable, says Sprauve.
If your score is low because of high balances, paying these down is one of the fastest ways to improve your score. “You could see improvement in as little as 30 days,” says Ulzheimer.
Keep in mind that even if you pay your balance in full every month, your ratio of debt to credit will vary depending on when creditors report to the bureaus. “People assume it’s the same as the due date, but that’s not necessarily the case,” says Sprauve, who recommends making a payment every two weeks if you tend to charge a lot. “Your report will show a smaller balance no matter when the creditor reports,” he adds.
Apply for new credit judiciously
There are few reasons for why you don’t want to apply for too many loans — credit cards in particular — at one time. First of all, the average age of your credit lines counts for 15% of your credit score. The higher your average, the better your score. The average account for consumers with the best credit is 11 years old, versus just six months for consumers with poor credit.
Likewise, new credit inquiries, which account for 10% of your score, can temporarily lower your score. The types of loans you have also influence your score, to the tune of 10% of your score.
Because older loans and higher credit limits can potentially help your score, many experts recommend keeping accounts open even if you don’t use them. This strategy makes sense to a point but shouldn’t dictate your decision to close an account or keep it open, says Ulzheimer. Many accounts are factored into your average account age for years after they’re closed.
Stay away from credit repair scams
If your credit is marred by a short sale, foreclosure or default, solicitations from outfits promising to clean up your credit may sound tempting. After all, these events will stay on your credit report — and drag down your score — for at least seven years.
The bad news: There are no legitimate “easy” fixes for wiping the slate clean. There’s nothing a so-called credit repair clinic can do that you can’t do on your own for free.
The good news: As long as you keep revolving debt in check and pay your bills on time, you’ll make steady progress toward improving your score. “You’ll be surprised by how much improvement you can see after just 24 months,” says Ulzheimer.