When it comes to managing finances, compromise is not an option for sure. At many instances, we have heard that credit score is a reflection of your financial health, still not many of us literally pays heed to this topic. Due to lack of understanding, we keep repeating common mistakes that would drastically impact the credit report, and till the time you understand its significance in your financial life, it’s already been too late. So, before committing unintentional common mistakes, let’s comprehend the topic.
What is a credit score?
A credit score is a three-digit number ranging from 300 to 900, which determines the financial health of an individual. Potential lenders check the scores to check applicant’s eligibility for a loan or credit card. This is done to determine the degree of risk involved in approving the loan or credit to a borrower. Not just the banks and financial institutions, but auto dealers, credit card companies, insurance companies, landlords and employers, too, check the scores to see how financially responsible a person is.
Hence, it is crystal clear that the credit score plays a significant role in our financial life and is, in fact, a key to unlock financial deals in near future. Therefore, it is important to pay close attention on the factors that could make the difference in determining your overall credit health.
Factors of credit score:
Payment history – Always remember that the first thing the potential lenders are keen to check in your credit report is your payment history. It comprises about 35% of your overall scores and thus, is the most important factor to determine your creditworthiness. Therefore, it is advised to ensure regular payments of your active loans and credit card dues to avoid any red flags on the report. Any default or missed payment could remain on your credit report for up to 7 years.
Debt to income ratio – Credit utilization or debt to income ratio is another crucial factor to determine individual’s credit health. It is basically a percentage of a borrower’s net income and total debt. Experts advise to keep the debt to income ratio below 30% against the overall available credit limit. It is a significant factor for the lenders to determine whether a person can qualify for another loan or credit without any risk of default payment.
Hard inquiries – Well, it’s a common human behavior to get lure over for exciting loan offers either to meet essential financial needs or to just fulfill the unnecessary desires. No matter how badly you need a loan, it is always good to remember to check the true credit score in order to identify your loan eligibility. It may be noted that when you apply for a loan or credit card, lenders pull a hard inquiry to check your credit report and high number of frequent hard inquiries could have a negative impact on your scores as creditors would find you credit hungry and financially unstable.
Credit mix – Even though we often overlook this factor, but remember lenders are keener to pay attention to every detailing on your credit report including the credit mix. Notably, credit mix is a balance of secured and unsecured loans that a borrower has in its credit report. Having a mix of secured and unsecured loans helps a lender to decide how well you have managed types of loan and credit accounts so far.
Credit age – Lenders generally avoid sanctioning loans to young borrowers due to less years of exposure in managing types of loan and credit account. Credit age factor accounts for 15% of your credit score and is yet another significant factor to help lenders determine how much a borrower is experienced to deal with the finances well. Usually, if a person is having an average credit age of less than a year, most lenders would avoid sanctioning higher loan amounts and vice versa.
Factors that don’t have an impact on credit score:
Receipt of public assistance – It won’t be wrong to say that no matter how rich or financially stable you are, there comes time when you certainly need to ask for monetary assistance from friends or relatives. However, you don’t have to worry about your credit scores getting affected by it as any receipt of public assistance is not recorded in a credit report.
Race, color, nationality, and religion – Though personal information like name, address, social security number, and date of birth is included in your credit report, it doesn’t record information about your race, color, nationality and religion. Remember, your credit report is a reflection of financial standing and not of your personal identity.
Marital status – You vows to share everything with your partner, but probably credit score is something that is not meant for sharing purpose. Your credit score is determines your financial health and not of the partner. However, in case of joint loan accounts, both the partners will bear the responsibility of timely payments and the same would be recorded in their credit reports separately.
Where you live – Which city you reside and what type of house you own doesn’t have any impact on your credit score. The information is recorded only for identity and address verification and is not used to calculate your creditworthiness.
Child/family obligations – Even though you are a sole breadwinner of a family, the factor is not used to determine your credit scores. Your responsibility towards family and other dependant members might affect your repayment capacity, but that certainly would not hit your scores directly.
Checking own credit score – It is a misconception that checking your credit report frequently would hit your scores. Remember, soft inquiries have no impact on credit scores and are only visible to you.