If you know anything about how credit reporting works, you probably know that certain events and actions can have a significant, often long-lasting impact on how prospective lenders view your creditworthiness. These events range from purely financial ones - applying for new credit or missing a payment - to major life events like marriage. Precisely how much any one event will impact your score in terms of points added or deducted is difficult to know, because credit score models vary and are not fully understood except by the companies that manage them. But with plenty of data and research, financial experts have determined the basics behind how common events end up factoring into your final credit score.
Checking your report
It's a common misconception that checking your credit score or viewing your own credit report will harm your credit. However, this is almost never the case. Don't hesitate to keep regular tabs on your credit report and comb for any errors or issues.
Opening a new credit card
With so many different credit cards to choose from, each with their own perks and attractive signing bonuses, some of us might feel compelled to apply for as many as possible. But according to FICO, a major credit reporting agency, new credit accounts for around 10 percent of your final score. Things get complicated here, though, since FICO also noted that several credit applications in a short period of time are usually not a serious issue in terms of credit harm, since people commonly incur these marks while shopping around for a new mortgage, for example. In any case, try to limit new credit applications to only a handful of times per year.
Paying off debt
Many of us are relieved when we finally pay off debt related to student loans or old credit card spending. At the same time, we assume credit agencies will view this milestone favorably too. But in some cases, debt that's paid in full might actually cause your credit score to be slightly lower. To explain why, it helps to know the two biggest factors that go into every credit score model: on-time payments and credit utilization.
If you've been paying off loans on time for years, lenders will see you as responsible and credit agencies will raise your score accordingly. But when that loan is effectively erased from your credit portfolio, your utilization ratio (total credit balance divided by credit available) will decline somewhat. This is totally normal and merely a side effect of the scoring model. Fortunately, the decline should be slight, and your score should continue to increase again as you keep using credit responsibly.
For a variety of reasons, filing for bankruptcy to begin the process of consolidating and paying off large amounts of debt may be the best option for those struggling with these issues. While bankruptcy often signifies a turning point in the financial history of most people, it is among the most glaring marks that can appear on one's credit report.
Filing Chapter 7 bankruptcy will cause credit scores to drop significantly, but only if the score was already relatively high. For those with already poor credit - a category that bankruptcy filers will likely already fall under - this event will actually not cause the same relative damage, and often helps lead to long-term improvement in one's score. Be advised, however. that bankruptcy records remain on credit reports for up to 10 years.
Closing old credit cards
Over the years, it's common to accumulate several different credit cards, some of which get used more than others. After going for long stretches without using a particular card, our first instinct may be to close that account. But this action turns out to be among the more complicated decisions related to credit scores.
As mentioned previously, credit utilization plays a big role in most scoring models, so in general, eliminating an old card will reduce your total available credit line, and therefore lower your score. Still, there are a few good reasons why someone might want to bite that bullet.
According to Credit Karma, it's probably worthwhile to close old cards when they charge annual fees, high interest or other expenses. Even though your credit score will end up slightly lower, this is of little concern compared to the hassle of hundreds of dollars in annual fees on services you don't even use. Just be sure to spread out those cancelations rather than perform several at once to dampen the blow as much as possible.
Managing credit can be a very tricky situation, but it doesn't have to be fraught with frustration. Simply use your available credit responsibly and keep track of your credit report on a regular basis, and you should be all set for credit success.
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