Credit 101
Here are the facts on revolving credit and how it can affect your credit score either positively or negatively.
Have you taken a look at your credit score recently and seen a drop? A decrease of even a few points can signal you’re not as qualified to access credit services as you were before, so it pays to spend some time learning about why this happens. Use our guide to discover what makes a score drop and what you can do to reverse the damage.
There are many factors involved in developing your credit score, so it may be difficult at first to determine what exactly caused a decrease. Start by seeing if any of these apply, then check out the solution for each situation. It’s also possible for several factors to influence your score at once.
Putting even a few hundred dollars on a credit card can upset your “credit utilization.” What does this term mean? It’s the amount of available credit you currently use compared to your total card limits. If you have spent $300 on a card, but you have $1000 in total credit lines for all your cards, your utilization is 30 percent. Credit score models reward those who can keep this utilization number low, usually below 30 percent. Even a small purchase can push that number too high and significantly drop your score.
Solution: Start making payments on your cards, beginning with the most “maxed out” cards, if possible. In addition to looking at your total spent across all cards, check to be sure you’re not too close to the limit on any one card. It’s better to have your balances spread out. You can also request a credit limit increase on a card with the intention of not spending any more on it. This gives you more available credit in proportion to your existing debt.
On occasion, a creditor may lower your available credit. This happens for various reasons, but when it does occur, your credit utilization ratio can go up very quickly and impact your credit score.
Solution: Ideally, you should make good financial decisions to prevent a bank from considering you as a bad credit risk and lowering your limit in response. You also want to keep your customer profile data updated, including any pay raises you received. Showing an increase in income may be enough to stop or even reverse a harmful credit limit decision from the lender. In the meantime, keep paying off credit card balances to lower your utilization ratio.
Mistakes happen, but a pattern of late or missed payments may cause a lender to take action and report your error to the major credit bureaus (Equifax, Experian, and TransUnion). Whether you couldn’t pay the bill because of hardship or you completely forgot the due date, banks need to see that you’re trying to pay.
Solution: Once you realize this error, make the payment ASAP. After they’ve received your payment, call and ask if they’ll forgive you this one time. Many lenders are understanding. If it’s the first time this has happened, they could let it go and not report it. Remember, however, that there’s a difference between a payment late by a few days and something that’s very late (60 days or more). Banks don’t usually dismiss the more obvious errors.
Your credit report is the source of data that lenders use to approve you for a loan. It’s also the basis for your credit score. A bad mark on your credit history can cause issues for your score, even if it was a mistake and not something you actually did.
Solution: In addition to checking your credit score, ask for a free copy of your full credit report from each of the three agencies every year. Look for errors and follow the procedures given at each of the bureau’s websites to dispute and resolve them.
What if you check your credit history and see something besides an obvious error? If you think someone opened and used credit in your name, you may be a victim of identity theft. Signs of fraud include addresses you've never heard of or other personally-identifying info that doesn't belong to you.
Solution: Stop what you're doing and file a report at identitytheft.gov, as well as your local police (especially if you know who may have stolen your info). Dispute data on your report with each reporting agency, and contact any companies that may have accounts under this false information. Many cards also have fraud alert options and the ability to freeze your credit so that more accounts can't be opened while the situation is resolved.
Even if you don't plan on using a card again, it's recommended that you don’t close out the account. This can drop your utilization ratio – since your total credit will decrease – and make your score decline quickly. It also shortens your overall credit history length, which is another important factor in your score.
Solution: Rather than closing your account, pay it off and leave it open. If possible, do what you can to keep it active, which may mean making small purchases to it every year or so.
The utilization ratio is a big factor in your score, and buying an expensive computer or putting several nights at a hotel on your card can make your score drop suddenly. This depends, of course, on the total credit available to you and how much you use.
Solution: Pay off the purchase as soon as you can. If you bought something using an interest-free promotion, consider paying another card off with a payment in the same amount as your new, big purchase. This will bring your utilization ratio back into balance.
Whether you applied for a small $200 retail credit card or a big house mortgage, a new credit inquiry will be on your history. Lenders pull your credit as a way of seeing if they should approve you, and this act – since it is considered a “hard inquiry” – can temporarily lower your score. It’s not as big a drop as some actions, but each credit inquiry can add up over time and stays on your report for up to two years.
Solution: This hard inquiry will eventually fall off your report. Be picky about what cards you apply for, and limit those hard inquiries to one or two per year (or even fewer). Eventually, you’ll see the points return to your score.
While the terms "good credit" and "bad credit" can determine your needs, everyone should strive to make their credit score better. Good scores come with those perks that everyone wants, including access to larger credit lines, lower interest rates, and great reward card offers.
Experian offers a look at what they consider the different levels of creditworthiness. The word “bad” is never used, but you should strive to move up the levels to eventually achieve “very good” or even “exceptional.” For their FICO scoring model, they are:
FICO is just one scoring model, but the tiers for creditworthiness have similar ranges among all companies.
There are many actions you can take now that will slowly raise your score over time. Since each action may have more influence over your score, not all actions will have the same effect. Some things you can do now include:
There’s good news for anyone with a credit score drop: by knowing it happened, you have shown initiative in monitoring your score. That’s a big first step in improving your finances, and eventually, your score. With continued care and attention to your spending and credit use, you’ll be watching your score head back up in the other direction.
Are you looking for an easy, secure way to build your credit? Consider Petal. Learn more about our card and all of its perks today.
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Here are the facts on revolving credit and how it can affect your credit score either positively or negatively.
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