Having a healthy credit score can open a lot of doors: access to housing and auto loans, lower interest rates and higher credit card limits. Most landlords require a baseline credit score for tenants to rent a property; some employers even use it as a way to measure a prospect’s reliability during a hiring process. It’s kind of a big deal.
No one is really exempt from having a bad streak of luck. Unemployment, health issues, natural disasters and other random situations can come out of nowhere and bring financial distress to your life, affecting your credit score, and thus, putting you in a bad spot.
So what do you do if your credit score needs a little work?
What is a Credit Score
A credit score is a scale used to predict your probability of paying any loan in a timely manner. Credit report companies have a mathematical formula to calculate trustworthiness using a scoring system with information like:
- Your bill-paying history
- Your current unpaid debt
- The number and type of loan accounts you have
- How long you have had your loan accounts open
- How much of your available credit you are using
- New applications for credit
- Debts sent to collection, foreclosures, or bankruptcies
Companies use credit scores as a reference to make decisions such as whether to offer you a mortgage, credit card, auto loan, or other credit offerings. Scores also factor into what interest rate you receive on a loan or credit card, and the credit limit the financial company is willing to offer you.
There are three main credit report bureaus in the market, each with their own score: TransUnion, Equifax, and Experian. The scoring scale normally ranges from 350 to 850. The higher your score is, the better credit products you can have access to. As a reference, a median American credit score is 710.
Start Fixing your Credit Score
Not having a perfect score doesn’t mean that you can’t access credit, but it may cost you more in interest. So how can you improve a damaged rating?
Keep a track of your credit scores and reports. It’s always a good idea to check on your credit report once a month. Reports aren’t immune from human error, and regular monitoring means you’ll be able to catch any mistakes and see how your actions are playing a role in improving your score. You can visit AnnualCreditReport.com for free weekly reports.
Dispute any errors immediately. Creditors are far from perfect, and sometimes there might be system glitches that may make you look like you missed a payment when you actually made it ontime. If that is the case, contact your creditor as soon as possible, and make sure you have a proof of payment handy as evidence.
Pay your bills on time. Credit scores and reports not only gather information from banks or other financial institutions, but around 35% of the score comes from your billing status. Phone, cable and even medical bills are under this category, so we recommend you to never skip these payments. Autopay is a great resource to avoid forgetting to pay your bills — just make sure you don’t drain an account otherwise you might get hit with overdraft penalties (which we explain here)
Never use all of your credit line. No matter the size of your credit line, you should only be using a maximum of 30% of it every month, in order to have a better credit score. For example, say you have two credit cards with $2,000 limits and $500 of unpaid balances on one card. Your credit utilization ratio would be 12.5%. In this case, total your debt owed ($500) and divide that by your total credit limit ($4000).
Prioritize older debts. If you already have accumulated multiple debts, prioritize those that have been acquired first. If they are outstanding, make an effort to pay them off completely.
Avoid getting unnecessary credits. Every single time you apply for a credit product, the creditor runs a hard credit check, dropping your score from one to five points. If you really don’t need that credit, avoid applying.
Old credit cards matter. Canceling old credit cards once you paid them off might sound tempting, but it’s not the right move. If you keep them active, you can establish a long credit history, which makes up 15% of your credit score. Consider canceling them only if they charge you an annual fee.
Are Credit Relief Companies Worth the Shot?
Credit repair companies can help you improve your credit by detecting and disputing errors on your credit report. Nonetheless, they may charge steep fees for this service (often around $50-$100 per month, according to Experian), and these are things you can do on your own for free.
Other relief companies offer you to negotiate your debt on your behalf. The truth is that this process requires you to default on your payments, taking your debt to a point where the creditor may offer to a lower lump sum. While paying less money than you owe sounds nice, it will damage your score, and — while it is better than not paying at all — it’s far from optimal in the long run.
Final Thoughts
Patience and discipline are key when repairing your credit score. It can take at least several weeks for creditors to report your payment information and companies to update your score. A healthy credit score is a long-term game. In the meantime, the experts at The Exchange Blog are here to help you solve your questions when it comes to financial health.
