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Before I bought a home I spent very little time thinking about my credit score.
Being new to Nashville, I was more concerned about networking, moving up in my career, and trying to pay the bills on a $30,000 salary.
Like many young professionals, my credit score was low on my list of priorities.
To be honest, I was pretty naive about why a credit score is so important.
And it turns out I wasn't alone.
A new survey from the Consumer Federation of America found most Americans don't understand the real cost of bad credit:
- Consumers greatly underestimate the cost of low credit scores. According to the study, only 22% knew that a low credit score could increase a $20,000, 60-month car loan by more than $5,000.
- A significant number of those surveyed didn't know credit scores are used by non-creditors like utilities, cell phone companies, home insurers, and landlords.
- Two-fifths of those surveyed believe marriage and age are used to calculate credit scores.
- Only 42% of millennials, compared to 57% of gen-exers, said their knowledge of credit scores was good or excellent.
After reading this, I really wanted to set the record straight on credit scores.
Here's what is important for you to know.
Who Can Check Your Credit Report
One of the reasons it's important to monitor your credit report is to make sure inquiries are only coming from permissible sources. Per the Fair Credit Reporting Act, only the following inquiries are allowed:
- Your written request
- Satisfying a federal court order or subpoena
- Financial institution completing a credit application for a loan
- Utility companies
- Insurance underwriters
- Government agencies for certain licenses or government benefits
- Potential Investors
- Current creditors for collections efforts
- Child support enforcement
- Prospective employers (only with your written consent)
Potential and current employers are allowed to check your credit report when making hiring or promotion decisions. However, per the Fair Credit Reporting Act, they will need your written permission. Also, if any negative action is taken against you, you must be informed.
Checking Your Credit Score
Checking your credit score for the first time can feel like finally stepping a scale at your doctor's office. After months of junk food binges and no exercise, it's no fun to face the numbers. But you're so much better off once you know.
The best place to get your credit report is through AnnualCreditReport.com. The government authorizes a free report from all three of the credit reporting agencies—Experian, TransUnion, and Equifax—every twelve months.
To stay updated in between my annual updates, I've been monitoring a summary of my credit report through Credit Sesame.
Here's what my dashboard looks like:
Credit Sesame is a free website that offers a score from TransUnion, analysis, and monitoring. No credit card is required, so it's easy to sign up.
You will need to upgrade to a paid plan if you want to receive your complete credit reports and regular monitoring from all three agencies. However, their free plan offers plenty of value if you want to keep an eye on things in between your annual free report from AnnualCreditReport.com.
How is a Credit Score Calculated?
Before diving into what is considered good, it's important to understand exactly how a credit score is calculated.
Here's how FICO breaks it down:
35% – Payment History
30% – Amounts Owed
15% – Length of Payment History
10% – New Credit
10% – Credit Mix
Payment History – How often have you paid your bills (past credit accounts) on time?
Amounts Owed – What is your current amount of debt? This is determined by looking at your statement balances.
Length of Payment History – What is the age of your oldest account, your newest account, and the average age of all your accounts? Generally, a longer credit history increases your scores.
New Credit – Opening a lot of new credit accounts in a short period of time sends a red flag to credit reporting agencies. This can be especially harmful if you don't have a long credit history.
Credit Mix – What types of credit accounts do you have? This may include credit cards, retail accounts, installment loans, etc.
So, What's a Good Credit Score?
FICO uses a range of 300-850 for credit scores.
Although a higher score indicates less risk for a lender, there's not a single cut-off number. Generally, a score of 720 or above can help you lock in the best possible rates.
How To Improve Your Score
- Check your credit report.
- Pay all of your bills on time.
- Set up payment reminders.
- If you've missed a payment, pay it off as quickly as possible.
- If you're having major financial problems, contact creditors and/or a credit counselor to try and work out at payment plan.
- Use your credit cards every month, but keep your balances as low as possible. Try to stay below 20% of your available credit limit.
- Pay off debt.
- Don't try to improve your scores by closing unused credit cards.
- Don't try to improve your scores by opening a bunch of credit cards you don't need. This can be especially harmful if you have a short credit history.
- Watch for errors on your credit report, and work on getting them corrected as quickly as possible.
Repairing a low credit score won't happen overnight, but you can definitely get there by being patient and consistent. By checking your score, you can begin your path toward a brighter financial future.
Readers: Are you surprised by Americans' lack of knowledge about credit scores?