The key to borrowing money is to have good credit. Having a high credit score gives lenders an idea of how likely you are to pay back a loan in full and on time. Without good credit, a borrower would have fewer lending options that come with extremely high interest rates or money must first be saved to make the purchase.
Building good credit requires financial practices that create a positive credit history and improve your credit score. In this blog, we will discuss the importance of having good credit for your financial life and ways to improve it.
What Is a Credit Score?
A credit score is a rating that takes into consideration a multitude of financial factors to determine whether an individual is eligible for a loan. According to Bankrate.com, it is also used to help property owners assess potential renters as well as by employers to determine a job applicant’s financial security. All these factors point to how financially responsible individuals are with their money and how likely they are to pay back loans.
Your credit score is composed of your payment history, length of credit history and how much credit has been used from your total available credit limit, known as a debt-to-credit ratio. Other contributing factors are how many “hard” inquiries or reviews of your credit have been requested and the types of accounts in your name.
Let’s look at how each of those factors make up your credit score.
- Payment History: The most significant factor contributing to your overall credit score is your payment history. This is the record of all payment activities to your open credit accounts. Making payments on time can have a positive impact on your overall credit score. Alternatively, any missed or late payments can cause your score to drop.
- Credit History Length: Your score can be impacted by the length of your credit accounts. Keeping the oldest account open and active helps increase your score.
- Debt-to-Credit Ratio: The amount you borrow can also affect your score. Keeping your credit use below 30% of your available credit will let you maintain a good score. For example, if you have a credit card with a limit of $10,000 you should not use more than $3,000. Staying within the 30% threshold will show you are a responsible borrower and aren’t maxing out your accounts.
- Limit “Hard” Inquiries: Each time you apply for credit, such as a loan, credit card or department store card, the lender will run your credit report to determine whether your eligibility. These are called “hard” inquiries or “hard pulls” and they can reduce your credit score for about 12 months and may stay on your report for up to two years. Having too many hard inquiries in a short period can negatively affect your score. Soft inquiries that will not impact your score include when you check your credit report yourself or when you are checking a pre-qualification for a credit card offer.
Clearly, your credit score has a major impact on your financial life. Striving to maintain a high score before applying for a loan will increase your odds of being approved and usually means you receive a lower interest rate.
How To Maintain Your Credit Score
Because a credit score is sensitive to many factors that can cause it to increase or decrease, be mindful of things such as acquiring new debt, hard inquiries and missing loan payments. Also, use less than 30% of your credit lines, pay your bills on time, pay down debt and protect your financial information from fraud.
Actively adhering to these practices will not only maintain your credit score but help you build financial stability and strong financial practices that have both short- and long-term benefits.
If you’re a young adult just starting to build your credit, there are lending products to help. These include a share-secured credit card or credit-builder credit card, such as the one offered by Travis Credit Union.
A share-secured credit card works by requiring that you keep cash in a lender-designated account which is equal to the amount of the line of credit on the card. For example, on a $500 credit card line, you would need to always keep $500 in the lender account. This lets you use the credit while it reassures the lender that there is collateral should you default on your payments.
A credit-builder credit card works by offering you a small line of credit to use that you pay off in full each month. Do this for a year and it helps establish a positive credit history and higher credit score.
Why It Matters
Striving for a higher credit score is a smart strategy that puts you in the best position to borrow from a financial institution. Lenders typically offer the lowest interest rates to borrowers with the highest scores, so you could save a substantial amount on interest, especially on a 30-year mortgage. Also, a high score shows employers and landlords that you are a responsible money manager whom they can trust.
How Can Travis Credit Union Help?
Travis Credit Union offers financial education resources that put you on the path to reach your financial goals. Whether you are starting to build your credit or are looking to increase it, TCU’s free Knowledge Base can be a great resource for your financial education. With Knowledge Base, you can learn about many different topics, including credit score education and tips on increasing it.
If you need financial counseling, Travis Credit Union has partnered with GreenPath Financial Wellness to provide free counseling by phone for our members.
To learn more about how TCU can help you borrow better, visit Traviscu.org.