TL;DR
- Having a good credit score saves you a ton of money on everything from mortgage payments to insurance. A poor credit score can prevent you from using payment plans, buying a house, or even getting the apartment you want.
- The 3 biggest factors in your credit score are your history of on-time payments, your credit utilization, and the length of your credit history
- To improve your credit score you can:
- Build up a history of on-time payments, autopay can help with this
- Add your rent and utilities payments to your credit score
- Reduce your credit utilization by increasing your credit limit
- Reduce your credit utilization by decreasing your debt, especially any debt in collections (see this post for tips on how to do that)
- Become an authorized user on an account
- Dispute any errors on your credit report
- Maybe increase your credit mix if it fits with a decision you were already going to make
One of the perks of adulthood is that we very rarely get graded on anything. Sure, we might have performance reviews or, if we own a business, ratings on our services. Yet, these assessments tend to happen pretty rarely and the more important part is (hopefully) the verbal feedback rather than any numbers attached to our evaluation.
An area where we do frequently get graded, however, is our credit score. Like a grade, a credit score can feel like a stark number that oversimplifies a lot of the work we’ve done with our personal finances. It may even come as a big surprise. We thought we did really well, then we see that grade and *oof* maybe not so much.
Consequences of a Low Credit Score
While you no longer have to worry about your sucky Calculus grade, you almost definitely have to worry about your credit score. Your credit score can affect everything from the kind of interest and mortgage rates you get, to how easy it is to rent an apartment, to your rates on car insurance, to whether you can take advantage of payment plans, and more.
To put it into perspective, if you have an excellent credit score, generally considered a 780 or above, your mortgage interest rate (as of this writing) would be around 7.07%. If you have an average credit score of 698, your mortgage interest rate would be about 8.11%. This means you’ll pay $285 more per month for a $500,000 house if you put 20% down than someone with an excellent credit score. And if you have a fair credit score of 630, your mortgage interest rate would be 8.4%, translating to $367 more per month than a person with an excellent credit score.
So your credit score can really benefit or cost you. Luckily there are a variety of ways to improve your credit score if it could use a little pick-me-up.
Build Up Your Record of On-Time Payments
The biggest factor in your credit score is your record of timely payments. As a result, the most important strategy for increasing your credit score is to pay your bills on time and, ideally, in full.
Setting up autopay is a great way to ensure that you will always pay on time. For credit cards, you might consider paying them off more regularly (such as once a week). This further helps build your record of on-time payments and has benefits for the next strategy (lowering your credit utilization).
If autopay scares you, you could put a monthly reminder in your phone for a few days before your bill is due to pay it off (or pay it off as much as you can).
Some credit agencies also now let you include your rent and utility payments in your payment history. I found that I couldn’t take advantage of this. The system didn’t support the agency I pay my rent through. You may find the same thing. However, if you can take advantage of this option, it is very worthwhile.
Lower Your Credit Utilization
The next most important factor in your credit score is your credit utilization. This refers to the percentage of your credit limit that you are using. Creditors love seeing lower levels of credit utilization because it shows that you are not over-strained financially and so are likely to pay your bills off. Using less than 10% of your credit limit is the best-case scenario.
There are two ways of decreasing your credit utilization. The first is to reduce the amount of credit you are using. You can see my tips on budgeting here.
The second is to request an increase in your credit limit. It is important to not actually use that higher credit limit. However, going back to some basic math, if your denominator is larger, the overall percentage will be lower. To make it even easier, using $2,000 of a $4,000 credit limit is much higher utilization (50%) than using $2,000 of an $8,000 credit limit (25%).
On a related note, make sure you work on decreasing your debt, especially any debts in collection. These are likely to have a big impact on your credit score. For more information on paying off debts, see my post on debt reduction methods.
Increase the Length of Your Credit History (or at least don’t dramatically lower it)
The length of your credit history also plays an important role in your credit score. You might ask, how can I increase my credit history if that’s in… the history? The answer is to become an authorized user on a long-standing account like one your parents might have. You don’t even have to have a credit card or use the account at all. This is just a simple way of increasing the average length of your credit history and decreasing your credit utilization.
Opening a new line of credit will generally lead to a big drop in your average credit history. It’s therefore important to evaluate how worthwhile that line of credit actually is and not request new lines of credit too often.
Increase Your Credit Mix
This is where things get tricky. Credit agencies like to see low credit usage and a long credit history, but they also like to see a variety of different kinds of credit–like a couple of credit cards, a car loan, and a mortgage. It can actually hurt your credit score to have just one type of credit.
This factor plays less into your credit score than your credit history. So if you’re thinking about opening a credit card just to increase your credit mix, think twice. It may only be worthwhile if you also get good benefits from the card, it has low fees, and it’ll be awhile before you’re going to need to run a credit report for a big purchase like a mortgage or car. That way you have more time for your credit length to build up again.
It’s also more beneficial to add a type of credit you don’t already have. Again, I’d recommend that you only seek this out if you have other good reasons for taking out a particular line of credit. Hopefully it’s pretty obvious that it’s not worth buying a new car just to diversify your credit.
Dispute Any Errors Affecting Your Credit Score
It’s absolutely vital you check your credit report regularly for errors. There are many stories of people trying to get approved for a mortgage, only to find that big errors on their credit reports led to super low, disqualifying credit scores.
For example, you might have someone else’s credit activity on your report. Sometimes payments you made on time can be accidentally marked late. And payments may be included on your report that shouldn’t be. Medical debt collections under $500, paid medical debt, and most types of payments older than 7 years (see here for examples and exceptions) should no longer be included on your report, for instance.
If you notice any errors, try to get them resolved as soon as possible. I know, I too would rather eat sidewalk chalk than wait on hold and then talk to a customer service agent on the phone, but it’s very important. You can check out this great guide from Investing Bestie that notes where to go to dispute credit errors as well as how to freeze your credit so new accounts don’t get opened in your name.
Credit Score Summary
These are a few of the most impactful steps you could take to improve your credit score. Many of these steps can improve your credit score quite quickly (like becoming an authorized user or asking for a credit limit increase), others may take a little time and patience (like paying down debt or resolving credit errors). In the long run, all that time and effort will pay off—potentially more than that calculus class ever did.
