Few feelings are worse than when you go to a bank or lender to apply for a mortgage or loan and they turn you down because you have a “poor credit score.” Worse still is when you don’t know what they’re talking about or don’t even have a credit score.
Whether you know it or not, credit scores determine your creditworthiness and can play a significant role in your financial well-being. Therefore, it’s essential to learn everything you can about what helps versus what hurts a credit score to help you maintain a good one.
If the concept of credit scores is new to you and you don’t understand what they are, how they work, or why they matter, you’ve come to the right place. This article dives into the world of credit scores, credit reports, and other important things to understand regarding loans, debt, and credit.
Why Is Credit Important?
Credit is important in the financial world for the same reasons it matters in everyday life. If you are known as an honest, dependable, and hard-working person, typically people give you credit for those attributes and you are more likely to receive the benefit of the doubt in situations when your character is called into question.
Having a good credit score is important for these same reasons, but in the world of money and finance. Having a good credit score usually means you have a good credit and payment history and are responsible with your money and the debts you accrue.
In other words, good credit means paying your bills on time, paying back your debts, and not overspending on your line of credit, resulting in less risk to the lender. Your credit score is a picture of your creditworthiness, which is why a good score is necessary for obtaining credit.
Credit Scores and Interest Rates
The main reason that credit scores are monetarily important is because of how they impact your financial future in terms of interest rates. The better your credit score, the lower your interest rates on mortgages, student loans, and other loans can be. To understand how exactly this works, let’s look at how credit scores are determined.
How Are Credit Scores Determined?
The job of determining your credit score falls to three credit bureaus: TransUnion®, Equifax®, and Experian®. Each of these bureaus has its own credit scoring model using complex algorithms and formulas that we won’t get into.
The important thing to understand is that you can have a good credit score if you pay off your debts, make timely payments, and handle your money wisely. Conversely, late credit card or mortgage payments, late dues, and poor credit utilization can lead to a poor credit score, making it harder to borrow money.
Credit scores are generally based on a numerical system that ranges from 300 to 850. Credit scores in the 300 to 670 range are considered poor to moderate, while anything higher than 670 is considered good to excellent.
Getting Back to Credit Scores and Interest Rates
To give you a real-life example of how your credit score could affect interest rates, let’s say you’re applying for a loan. According to Nerd Wallet, if you take out a 30-year mortgage of $350,000 and have a credit score over 750, you could pay $86,000 less in interest than someone scoring 630-689. That’s a sizeable down payment on a whole other property or home!
The same concept applies to credit accounts, business loans, or personal loans. The higher your credit score is, the lower your variable or fixed rate can be and the less you have to pay in overall interest through the years.
Beyond Loans: Credit Scores in Daily Life
While interest rates on mortgages and other loans are among the first things most people think of with credit scores, they can affect so much more. Here are some ways that your credit score can impact your everyday life.
When it comes to home and auto insurance, your credit history can help determine the cost of your premiums in states where this practice is allowed. This is because being responsible in your financial life can directly correlate to being trustworthy in other areas of life.
Therefore, people with higher credit scores are typically more responsible and less likely to get into accidents requiring insurance claims than those with poor credit scores. As such, the higher your credit score, the lower your insurance premiums can be in certain states.
Getting a Job
In the same way that financial responsibility can correlate to responsible driving, it can also correspond with being responsible in the workplace. Therefore, many employers have started looking at credit scores before hiring key personnel in states where this practice is allowed. As such, having a poor credit score could make it more difficult to find a good job.
Renting an Apartment
When you sign a lease or rental agreement to rent a home or office space, your renter or landlord trusts that you will make good on your contract and pay rent when it’s due. Therefore, because they rely on your credibility, they can make credit inquiries to discover your score before letting you rent a property from them.
In the same way, if a landlord is debating between someone with a good credit score versus someone with a poor one, they will almost always choose the person with the better score.
Setting Up Utilities
One of the lesser-known ways your credit score is usually essential is when you want to set up your electrical utilities at a home or business. If you live in an area with deregulated gas or electricity, as most people do, certain companies won’t offer their plans to you if you have poor credit. The ones that do typically charge a higher down payment or deposit and have higher electricity rates.
How to Help Improve Your Credit Score
Because of the many ways your credit score can affect your everyday life, it’s crucial to have a good one! Unfortunately, if you have made poor financial decisions in the past because you didn’t understand the importance of your credit score, you have to work to improve your credit.
However, regardless of your current credit status, here are helpful ways to increase your score and your creditworthiness.
Without Accruing Debt
While taking out loans and paying off debt is the most well-known way to build credit, you can also build credit without debt. Building credit without debt is also a great option if you don’t currently have a credit score because you’ve never taken out debt or applied for a card from a credit card issuer.
Here are two of the best ways to build credit without accruing debt.
- Apply for a secured credit card. You can get a secured credit card after making a deposit or down payment. You then have a line of credit that matches your down payment. This process is similar to having a debit card attached to a bank account.
- Apply for a credit-builder loan. Credit-builder loans are specifically designed to help people with no or low credit increase their scores. You can apply for a credit-builder loan through the three major credit bureaus or your bank.
Paying Bills on Time
The best way to help improve your credit score is by paying your bills on time because this demonstrates responsible debt management. This includes your car payment, mortgage, utility bills, insurance payments, and anything else you pay monthly. If you struggle to pay your bills on time, you should set up an autopay plan or monthly reminders.
Reducing Credit Card Balances
Another great way to improve your credit score is through your credit utilization ratio. Your credit utilization ratio refers to how much credit you can access versus how much you use. A percentage of 30% or less is best for a good credit report. To keep a low ratio, it’s best to pay your credit card balance frequently rather than waiting until the payment is due.
Regular Credit Report Monitoring
Regularly checking the information in your credit report is crucial for maintaining a good to excellent score. Monitor your credit report with MyScoreIQ, which gives you instant access to all your major credit scores.
Grow Credit with Good Spending Habits
Here are a few other tips to help you grow your credit score.
- Don’t exceed your credit limit.
- Have a mixture of credits and balances.
- Avoid hard or new credit inquiries.
- Don’t apply for too many credit applications too quickly.
Bottom Line: Why Credit Scores Matter
As you can see, from having low interest rates to getting the apartment of your dreams, your credit score impacts your financial well-being and nearly every aspect of your life. A good credit score can put more money in your pocket, enhance your reputation, and make it easier and cheaper to take out future loans, credit cards, or lines of credit.
For help monitoring your credit, use MyScoreIQ credit report monitoring services, which offers premier credit monitoring that also helps guard against identity theft.