According to NerdWallet, most conventional mortgages require a credit score of 620 or higher. Yet, most people often equate a credit score with mere banking processes. However, it is quite the contrary; as Mark Zandi, American Economist, says, “Lenders look at potential borrowers from many angles before extending credit: How much of its income will a household need to put into debt repayment? How large is the down payment? Does the borrower have a job with a stable income?” Which eventually boils down to one thing: what is the lender’s credit score?
What is a credit score?
It is a three-digit number representing your credit risk, or the likelihood of you paying your bills on time. Credit scores are calculated using data in your credit reports, including the amount of debt you have, payment history and the duration of your credit history. Higher scores mean you have demonstrated responsible credit behavior in the past, which may make potential lenders and creditors more confident when evaluating a credit request.
Why is a good credit score essential?
The lifetime cost of high-interest rates from bad credit scores can exceed six figures, higher than the average salary of a US employee. To explain this concept better, according to Informa Research Services, someone with a FICO score of 620 would pay $65,000 more on a $200,000 mortgage than someone with a FICO score over 760. While, on a five-year, $30,000 auto loan, the borrower with lower scores would pay $5,100 more, a drastic difference that can be solely avoided while maintaining a good credit score.
How do you build a good credit score?
1. Start by checking your Credit Report
You need to start at the source by checking your credit report. A recent survey conducted by the Association of International Certified Professional Accountants revealed that almost one in three US citizens has never checked their credit reports. Shockingly, 68% of the people that have checked their credit reports found at least one, and in some cases, multiple inaccuracies on their report. These inaccuracies can lead to higher interest rates being assessed on your loan or perhaps getting turned down for the loan altogether. You are entitled to a free copy of your credit report every year from each of the three nationwide credit bureaus; you can check these by visiting www.annualcreditreport.com.
2. Optimal Credit Utilization
This is another major factor that is considered while calculating the credit score. All credit scoring models look at how close you are to being ‘maxed out,’ or how dependent you are on credit, so the aim is to keep your balances low compared to your total credit limit. Experts have advised keeping your use of credit at no more than 30 percent of your total credit limit. So, if you have multiple credit cards, ensure that you use only 30% credit on each to increase your score tremendously.
3. Consolidate your debts
If you have multiple debts to be paid, you can leverage this to increase your score. You can opt for a debt consolidation loan from your credit union or bank and pay them off by making a single payment. Remember that you can pay down the debt faster if you have a lower interest rate on your loan. Another way to consolidate credit card balances is a balance transfer. Some cards offer a promotional period during which they charge 0% interest on the balance on your card. However, there is an additional balance transfer fee which can cost you between 3% to 5% of your total amount.
As Suze Orman, American Financier, said, “If you’re in poverty and all you have is a debit card or a prepaid card or you pay in cash, it does not report to a credit bureau. If it doesn’t report to a credit bureau, it cannot create a credit score for yourself.” This, in turn, will have you pay higher interest on your loans and keep you entwined in a loop of poverty.