Lately, Americans have been divided by different generational ideas surrounding credit scores. Some think you don’t need one at all, some think your score doesn’t matter, and others believe that a good credit score is a necessity. Let’s look at some of the reasons why…
No Credit
If you don’t have a credit score, you will most likely be paying cash for almost all of your purchases – this includes things like a house, a car, and other big-ticket items. 20 years ago, you could rent an apartment, purchase a vehicle for significantly less, and get by without a credit score. With inflation raising prices across the nation, many people don’t have an extra $60k lying around for a new truck; much less $500k for a home.
Some of the biggest influences in financial advice right now operate under the assumption that the average consumer should not be taking out debt. Although the idea of being debt-free should be every consumer’s goal, maintaining a credit score requires you to take out loans and prove that you can pay them back on-time and in-full on a monthly basis.
Poor Credit
Much like having no credit, having poor credit likely didn’t affect consumers even 20 years ago the way it affects them now. Lower interest rates, the ease at which you could qualify for a loan, and the ratio of income to living expenses all have an effect on our ability to pay our bills. However, having poor credit almost always has worse implications than having no credit at all. We’ll take a closer look at that below.
Credit for the Present Day
What does good credit get us now?
- Lower interest rates on houses
- Lower interest rates on vehicles
- The ability to rent an apartment
- The ability to get a job!
We live in a world where consumers are verified based on their credit scores in most situations. In addition to mortgage companies and dealerships, even employers and landlords now check credit!
What Is a Good Credit Score?
Well – that’s subjective. Each of the 3 credit bureaus will pull a different score and each lender will have a slightly different range of what is considered acceptable for each category. These scores are based upon your ability to take out a loan and pay it back on time and in full. Below is a helpful graph from Experian:
Many lenders see a score of 720+ as a “good score”. But what goes into a credit score?
Credit Score Factors
Your credit score is affected by a number of factors and can change month to month.
Payment History: payments should be made on time and should at LEAST pay the minimum monthly balance. If you have the ability, paying more than the minimum will help you pay off debts faster and you won’t pay as much interest in the long run. This can really add up!
Credit Usage: The goal for every credit user should be to use less than 30% of your available credit. For example, if you have a credit card with a limit of $15,000 you should try not to put more than $5000 on that card. This is cumulative as well – if you have 3 credit cards, each with a $15,000 balance, this would mean you have a total credit limit of $45,000 with all cards combined. You want to aim to use no more than $5,000 on each, but also to use no more than $15,000 in total. This will keep you at 30% for each card, and 30% in total.
Account Mix: Credit bureaus and lenders alike both like to see that you have a variety of account types on your credit report. These can include installment loans and revolving credit. Installment loans are loans that are given to you with a set amount and usually a fixed interest rate, such as an auto loan or a personal loan. These are loans that you take out and pay back in full over a set term. Revolving loans are lines of credit extended to you that you can use and pay back over and over again. Examples of these are home equity lines of credit and credit cards. Revolving loans typically have a variable interest rate and are available for you when you need them – if you don’t use them, you don’t have a payment.
Credit Age: The longer you’ve had loans and shown a good history of repayment, the better you look to lenders. If you’ve had credit extended to you for more than 7 years, you’re a more optimal candidate in the eyes of the credit bureau. A good history of repayment (no missed or late payments) means that you are more likely to pay back a lender if they choose to give you a loan.
Inquiries: Each time you apply for credit (whether it’s an installment or revolving loan) a lender will “pull your credit”. This means that they ask the credit bureau to send them a report of all your loans, past and current, and your repayment history. Each time your credit is pulled it counts as an inquiry on your credit report. Multiple inquiries in a short period of time can make you look riskier because it shows that you are looking to take on more debt.
As you can see, each of these things has the potential to positively or negatively impact your credit. Having a good credit score can have many benefits throughout your life!