In the increasingly complex personal finance arena, an individual’s credit score is deemed an indicator of how well they can meet their financial obligations. A person’s credit score can evolve based on events in their personal and financial lives. Private equity principal Mark Hauser details the factors that make up an individual’s credit score. He also offers strategies for improving consumer credit scores
5 Factors That Determine an Individual’s Credit Score
The Experian, Equifax, and TransUnion credit reporting agencies maintain credit scores and credit reports for millions of United States consumers. Each agency uses different credit scoring and credit reporting criteria. However, all three agencies consider these variables in determining credit scores.
Bill Payment History
Firstly, credit reporting agencies want to know if an individual pays their bills on time. Consumers with late payments, collections agencies referrals, and/or bankruptcies will see these events reflected in their credit reports.
Current Outstanding Debt
Credit scoring algorithms typically compare an individual’s current debt relative to their credit limits. If the person has utilized almost all of their available credit, this high usage factor could negatively impact their credit score.
Credit History Length
A sparse credit history can negatively impact an individual’s credit score. However, low account balances and on-time payments can help to offset the short history’s detrimental effects.
Multiple New Account Applications
If someone has recently applied for multiple new accounts, their credit score may suffer accordingly. However, the person will not be penalized for requesting a copy of their credit report.
Alternatively, creditors may monitor the person’s account or view their credit reports prior to a prescreened credit offer. These actions will not affect the person’s credit score.
Current Accounts’ Characteristics
Credit-scoring algorithms often review an individual’s overall credit portfolio. If they have both credit cards and installment loans, their credit score could actually improve. However, multiple credit cards or finance company accounts could cause negative impacts.
5 Advantages of a Good (or Better) Credit Score
An individual with at least a “good” credit score may find it easier to buy a house or lease an apartment. They may be able to obtain utility services without a security deposit. Finally, someone with good credit may receive better insurance rates and lower credit card interest rates. Mark Hauser explains the five advantages of a good credit score.
More Flexible Housing Options
Creditworthy homebuyers may receive more streamlined mortgage approvals, often at a lower rate. If they plan to lease an apartment instead, good credit will likely factor into the landlord’s decision on their application.
Let’s say a homeowner or tenant applies for utility service. The individual’s credit history (and their credit score) figure prominently in the utility company’s decision. Applicants with a good credit history may receive quick approval without the need for a security deposit.
More Favorable Insurance Outcomes
Many insurance companies analyze applicants’ credit reports (and credit scores) before making coverage decisions. First, the firm’s underwriter will decide whether each applicant is approved for coverage. After approval, the underwriter will determine the rate the policyholder will pay.
The insurance company periodically reviews each policyholder’s credit, especially before their renewal date. Private equity expert Mark Hauser notes that the insurer could raise the policyholder’s premium rates or decline to renew the policy.
Better Credit Card Interest Rates
When an individual applies for a credit card, the card-issuing bank reviews the person’s credit score before making a decision. Someone with a good credit score may receive a reduced annual percentage rate (or APR).
If a cardholder requests an increased credit limit or wants to apply for a higher-tier card, good credit may work in their favor. Finally, a personal loan applicant with good credit may represent a desirable credit risk. Cincinnati-based financial expert Mark Hauser notes that this may result in the loan approval or a higher-than-requested loan amount.
No Up-Front Mobile Phone Service Charges
Mobile phone service providers interact with customers who have diverse credit profiles. If an applicant has a substandard credit score, the business may ask them to prepay for service or provide a security deposit. On the flip side, a creditworthy customer may receive service without these added expenses.
More Favorable Employment Background Check Outcomes
Many companies view an applicant’s credit report when deciding whether to hire them. The individual’s credit score figures into the credit report.
Although many workers obtain jobs with less-than-ideal credit, employers may take unfavorable views of late payments and similar incidents. This could influence the hiring manager’s decision for certain positions involving financial responsibility.
5 Strategies for Improving a Personal Credit Score
Improving a substandard credit score, or making a good score even better, requires a multifaceted approach. The score won’t rise overnight, although certain actions will have faster payoffs than others. Mark Hauser details five key strategies that can help to achieve a better credit score outcome.
Pay Bills Before They’re Due
If an individual pays their bills late, their carefully planned credit improvement strategies won’t matter. Additionally, a late payment can remain on their credit reports for 7½ years.
To prevent a missed credit card or loan payment, borrowers should initiate payment reminders. If possible, they should set up an automatic payment for at least the minimum amount due. Paying before the 29-day overdue mark is recommended, as 30-day-late payments may be reported to credit reporting agencies.
Borrowers who miss their payment by 30+ days should immediately contact their creditor. Besides paying up as soon as possible, they should request that the creditor stop notifying the three credit bureaus of the missed payment.
Even if that doesn’t work, obtaining current account status minimizes further harm to the individual’s credit score. Over time, the late payments’ impact will lessen.
Decrease Revolving Account Balances
Even if an individual is current on their bills, an excessively high revolving credit account balance can increase their credit utilization rate. In turn, this negatively impacts their credit score. Therefore, they should pay down their credit card and/or line of credit balances. Mark Hauser notes that individuals with high credit scores have low single-digit utilization ratios.
Minimize New Credit Applications
Although opening new accounts helps to maintain a well-rounded credit file, an individual should limit the frequency of new credit applications. These hard inquiries and newer accounts can harm a person’s credit score.
As an exception, credit scoring algorithms understand that consumers often rate shop for mortgage and car loans. If this concentrated activity occurs within a short time period, the algorithm may not regard it as risky behavior.
Build Credit with a Secured Credit Card
An individual who wants to build (or restore) their credit may consider a secured credit card. Backed by an up-front cash deposit, this account usually has a credit limit that equals the deposit. The consumer can use this card like any other credit card. Their timely payments help to build (or improve) their credit.
File Credit Report Error Disputes
If one credit reporting agency’s report contains an error, it can negatively impact an individual’s credit score. Consumers can obtain a free copy of each agency’s report through AnnualCreditReport.com. Once they receive each report, they should look for errors such as mistakenly marked late payments and outdated negative information that should be removed.
An individual’s credit report may erroneously contain another person’s information. Mark Hauser recommends that all consumers dispute any mistake that could negatively affect their credit score.
Avoid Becoming a Credit Repair Scam Victim
Borrowers who miss a credit card or loan payment may see negative impacts on their credit reports. This makes it harder to obtain new loans, and some applicants will be turned down.
Faced with this situation, some consumers may contact credit repair agencies for assistance. These businesses attempt to improve an individual’s credit score by disputing negative credit report details. If the dispute results in the alteration or removal of the negative items, the person’s score could go up.
Certain unethical credit repair companies take advantage of consumers distressed about their financial situations. These dishonest businesses frequently use five tactics to scam consumers.
- Complete Lack of Action Following the Consumer’s Payment
- Use of Illegal Tactics to Attempt to Increase a Credit Score
- False Identity Theft Report Recommendations
- Guarantees of Specific Credit Score Outcomes
- Push for the Consumer to Obtain an EIN or Credit Privacy Number
Two Alternatives to Credit Repair Agencies
Consumers who are mired in debt may consider a credit counseling agency. A credit counselor can work with a person’s creditors to design a budget-friendly payment plan. The counselor can also help the consumer to gradually rebuild their credit. However, a credit counselor cannot get items removed from a credit report. The National Foundation for Credit Counseling maintains a list of accredited firms offering free initial consultations.
Alternatively, the Federal Trade Commission has published “Credit Repair: How to Help Yourself.” This publication explains how to improve an individual’s creditworthiness and provides credible resources for no-cost or low-cost assistance. Mark Hauser notes that either option may help a financially stressed consumer to get back on the right path.