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Credit is one of the most important yet misunderstood aspects of personal finance.
A lot of people criticize debt and say that you should stay as far away from credit cards as possible. But there are plenty of great benefits to having a high credit score if you know how to use them. Some benefits include rewards points, cash rewards, travel points, and lower interest rates on things like your car or home.
Extra benefits from credit cards can assist you with your long term financial goals in life. As long as you keep a good credit score.
In this article, we will be discussing how to improve your credit score with a few unique tactics.
How is Your Credit Determined?
First, let’s talk about how your credit score is determined. According to myfico.com, your credit score is determined by 5 different factors. We will discuss how to tackle each of these factors one at a time.
35% - On Time Payments
The first and largest factor is your record of on-time payments which counts for 35% of your credit score. Since this is the largest portion of your credit score, it can really sting you if you miss even one payment.
A payment is considered late if it is 30 days past due. The longer you wait, the more it will hurt your credit score.
If you have a credit score of 800, a late payment can penalize you as much as 100 points off of your credit score. But if your score is already low, another late payment won’t affect it as much. But you should still always pay on time because a late payment will stay on your credit report for seven years. Don’t let this scare you though because the impact on your credit score can still be fixed over a short period of time.
Some ways you can reduce your chances of late payments include setting up text alerts or setting up auto payments which you can usually set up online. Many credit card issuers also allow you to change your own payment dates. This might be a good idea if you don’t get your paycheck in time for your due date or if you have too many bills to deal with on the same week.
Overall there is no fancy tactic when it comes to on-time payments. You simply need to pay back the money that you are borrowing on time.
30% - Amounts Owed
Your Amounts Owed reflects the amount you owe each of your creditors in total. This includes both credit cards and installment loans - mortgages, car loans, and student loans.
Creditors actually want to see that you are able to pay several different loans. So having student debt, along with a car loan, and credit cards can actually be a good thing.
As for your credit card, one of the main factors used when determining your credit score is the amount of your credit limit you are using. What does this mean exactly?
Here’s an example:
If you have a credit card with a limit of $5,000 and you have used $2,500, then you are using 50% of your credit limit. A good rule of thumb is to keep your usage under 30% of your total credit limit. And this rule applies even if you have several credit cards.
So let's say you have 2 credit cards each with a $5,000 limit. This means you will have a total credit limit of $10,000. Collectively you should keep your credit usage under $3,000.
One tactic you can use to make sure that you don’t pass the 30% limit is to simply raise your credit limit. If you have a credit card with a limit of $1,000, this may not be enough for you
You can usually request to increase your limit online. If your credit provider does not allow you to do this online then you will have to call them.
15%- Length of Credit History
The 3rd factor that credit score providers look at is your length of Credit History. This counts for 15% of your credit score.
Lenders want to see that you have a long history of credit because this implies that you are an experienced borrower. So, if you are young or if you just opened a credit card, then this will count against you.
Yes, it might seem a bit unfair that you need credit just to build credit but there is a way around this! If you are wondering how to build your credit without any credit history, you can use the Credit Piggybacking tactic.
Credit Piggybacking
You can use a method called Credit Piggybacking also known as an Authorized User. Credit Piggybacking is when someone with a considerable credit history adds you as an Authorized User to their credit card.
This allows you to benefit from the length of credit that someone else has. Oftentimes a young adult with no credit history may use their parent’s credit history to piggyback on.
Now keep in mind that this is a short-term solution because you should be working to build your own credit. Also, there are limits to this method because not all creditors allow an Authorized User. But some issuers that do allow authorized users include Chase, American Express, Citibank, Capital One, and Discover.
Do Not Close Accounts
You may be tempted to close an old credit account that you no longer use. But the oldest credit card you have will contribute to your average history length. So think twice before you want to cancel an old credit card.
10% - New Credit
This counts for 10% of your credit score. There are a few ways that applying for new credit can negatively impact your credit score:
Lower Average age of Credit History. A new line of credit will decrease your average length of credit history because now you will have old AND new lines of credit.
Inquiry from Lenders. A lender might request for your credit report when considering to loan you money. It may look bad to some lenders if you are applying for a bunch of different lines of credit in a short period of time. But you won’t have to worry about this too much unless you are applying for several credit lines in the same year because the FICO credit score provider only considers inquiries from the last 12 months.
Something to keep in mind is that this impacts a small percentage of your credit score. And many types of inquiries are ignored completely when a credit score provider is assessing your score. Additionally, credit score services like FICO expect people to shop around for different credit providers so they provide some leeway in their formulas.
New Credit Can also be Good
Believe it or not, getting a new credit card can actually be a smart tactic to increase your score. That’s because a new credit card could boost your overall credit limit. And a bigger credit limit can help you with your amounts owed category.
10% - Credit Mix
The last factor is your Credit Mix which counts for another 10% of your credit score. Credit mix refers to the types of accounts such as credit cards, student loans, car loans, and mortgages.
Having a diverse set of loans can positively affect your credit score. As long as you are paying everything on time.
Bonus Tip on How to Improve Your Credit Score:
Experian Boost is a service that came out in 2019 so it is relatively new to the credit game. Experian Boost allows you to connect your credit score with your monthly bill payments such as your phone bill, utilities, and even your Netflix subscription.
This is a revolutionary change to the Credit Score game because as long as you are paying your monthly bills on time, then you can boost your credit score. Since most people prioritize their monthly utilities more than any other payment, this is like a guaranteed increase in your credit score.
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