Good credit is essential. It helps you qualify for low interest rates and good terms on loans. You can get credit cards with the best rewards programs. It can also make it easier to rent an apartment or a car, and it could even affect your ability to get a job if you’re pursuing certain career paths. But what makes up your credit profile and what steps do you need to take to maintain it? This guide will teach you everything you need to know.
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Consumer credit reports
The first part of your credit profile is your credit report. This report details your history as a credit user, including:
- Payment history
- The status of your accounts
- How much debt you currently owe
- How many times you’ve applied for credit recently
- Public financial records, such as collection accounts
It essentially shows how responsible you’ve been with credit in the recent past. Your credit report is maintained by each of the three major credit bureaus in U.S. – Experian, TransUnion, and Equifax.
Each bureau maintains its own private version of your report. Creditors and lenders report the status of your account and payment history every 30 days. They are not required to report to all three bureaus, which can lead to differences in your report between each one.
Although the formatting is slightly different on each bureau’s report, all reports contain six basic sections of information:
Personal information
This section includes your name, address, Social Security number and date of birth. It may also contain previous addresses, as well as current and past employment data. It does not include phone numbers or other information about you, such as income.
Payment history
This is the main body of your report. It shows the current balance, account status and payment history for each loan and credit card you have. Old accounts that have been closed can remain for up to 10 years if the account was closed in good standing.
Negative history information will only stick around for a limited amount of time. Most negative items only remain on your reports for up to seven years. Some negative information may drop off sooner. A few notations, such as a Chapter 7 bankruptcy will remain on your report for 10 years.
Inquiries
Credit inquiries happen when a creditor or lender checks your report. “Hard” inquiries happen when you authorize a credit check during a loan or credit card application. “Soft” inquiries happen when a creditor screens consumer reports to send out pre-approved offers.
Hard inquiries can negatively affect your credit score if you apply for too many accounts; soft inquiries have no effect. Inquiries remain on your report for 24 months (2 years).
Public records
Only public records that affect your finances will be listed on your report. This includes third-party collection accounts, including accounts for unpaid utilities and medical debt that’s gone unpaid for 180 days or more. It also includes court-ordered fines and payments, such as back child support.
Public records generally will not remain on your credit report forever. Like most negative information, it should only appear on your for about seven years.
Additional information
If you have issued a consumer statement or you have placed a fraud alert, this will also show up in your report. You will also have a section of disclosures from the credit bureau that explains your rights and provide important information from the bureau.
Getting free copies of your credit reports
By law, every consumer is allowed to get a free copy of their credit report once every twelve months. You can download your reports from all three bureaus through an online portal at annualcreditreport.com. To use this free service, you’ll need to answer a few questions to verify your identity, based on the information in your credit report.
Consumer credit scores
A credit score is a three-digit number that helps lenders and creditors understand your risk as a credit user. It’s calculated based on the information contained in your credit report. Both major credit scores used in the U.S. range from 300 to 850.
- A low score indicates that you’ve had issues with your accounts in the past, meaning you may be more likely to default; that makes you a high risk.
- A high score shows you’ve been responsible with credit, so you are a low-risk borrower that is likely to repay a debt.
Why do I have more than one credit score?
Different companies and organizations have different credit scoring models that they use. The company that created the original scoring model is FICO. It’s still the score used in 90% of all lending decisions.[1]
Each credit bureau also has its own scoring model, then they collective created the VantageScore. This is the score you’re most likely to see if you use a credit monitoring tool, such as Credit Karma or Credit Sesame. It follows the same basic calculation formula as FICO.
How is a credit score calculated?
There are five factors used to calculate a FICO credit score. Each factor has a different “weight” in how much it affects your score.
Payment history – 35%
Payment history checks your accounts to see if you’ve made the payments for your accounts on time, going back six years. If you’ve had payments that were late by more than 30 days or paid off accounts on a different payment schedule, it will negatively affect this factor.
The impact of missed payments and other negative information decreases over time. So, a payment you missed last month will affect your score more than a payment you missed five years ago.
Amount of credit in use – 30%
This factor measures how much debt you have relative to how much available credit you have. It’s also known as a credit utilization ratio. You divide the current balance on each account by the maximum credit limit. For example, if you have a $2,000 limit and a $500 balance, your credit utilization ratio is 25%.
For this factor, any utilization ratio over 30% is bad for your score. Using less of your available credit will boost your score.
Credit age – 15%
This factor measures the amount of time you’ve used credit. It looks at the total number of years you’ve maintained various accounts in good standing. The more accounts you’ve maintained over a number of years, the better this factor will weigh on your score.
This factor is why it’s a good idea to keep your old accounts open. If you have an old credit card that you don’t use frequently, find some small charge you can make with it and pay off to keep the account open. Allowing accounts to close because you don’t use them can negatively affect your score.
New applications – 10%
This factor looks at the number of hard inquiries on your report. Each inquiry will decrease your score by a few points, which is usually negligible. However, if you have too many inquiries within a six-month to one-year period, it can negatively impact your score.
Try to space credit applications out by at least six months to avoid credit damage.
Types of credit – 10%
This final factor looks at the types of credit that you have. A diverse range of accounts shows you are well-versed in managing different types of credit lines at once. Having several credit cards, a mortgage and an auto loan show you can manage a range of accounts at once.
What is a good credit score? What’s a bad score?
According to Equifax:
| Score range | Designation |
| Above 800 | Excellent |
| 740-799 | Very good |
| 670-739 | Good |
| 580-669 | Fair |
| Below 579 | Bad |
How to achieve and maintain good credit
Step 1: Review your reports regularly
Most experts recommend that you should review your reports at least once per year. However, if you are working to improve your score, you should review them every month or at least every few months.
What to look for as you review your reports:
- Accurate payment history on your accounts
- Accurate account statuses
- Correct current balances for each of your accounts
- Duplicate accounts, which may be an error
- Accounts you don’t recognize, which may be a sign of identity theft
- Inquiries that are older than 24 months
It’s important to understand that credit reports can contain errors. An FTC study found that roughly 1 in 4 reports contain an error, and 1 in 20 have an error so bad it would decrease a consumer’s credit score by 100 points or more.[2]
An error in payment history or even a duplicate account could decrease your credit score. This is why you want to review your reports regularly to make sure the information is accurate and up-to-date.
What to do if you find accounts you don’t recognize
If you see any account you don’t recognize on your report, it may be a sign of ID theft. If someone gets your social insurance number, they could open accounts in your name. If this happens, follow these steps:
- Contact the credit bureaus immediately to place a fraud alert on your report.
- Then contact the creditor or lender to let them know the account was opened fraudulently and needs to be closed.
- File a report with your local police service department.
- File a report at IdentityTheft.gov
Step 2: Dispute any errors you identify
If you find any information that you believe is an error, you should dispute it with the credit bureau that issued the report. By law, the bureaus are obligated to verify the accuracy of the information in your report that you dispute.
If you see something you think is inaccurate, you can request an investigation. The bureau will check with the furnisher that supplied the information and request for it to be verified. If they can’t verify it, it must be removed. They must verify the information within 30 days or 45 days if they request more information from you.
Step 3: Take steps to build credit
Once you correct any inaccuracies in your report, you may still have negative information that’s accurate. This information will remain on your report until the penalty expires, usually within seven years.
However, even before the negative information drops off your report, you can take steps to build credit. This involves taking strategic moves to maximize your score. These tips can help you.
Make all your payments on time
The best thing you can do for your score is to make all your payments on time. Any missed payment can have a significant negative impact on your score. What’s more, positive payment history now can help offset payments you may have missed in the past.
Never use more than 30% of any available credit line
Less is always better. It’s a myth that you need to carry balances on your credit cards from month to month to maintain a good score. In fact, if you pay off your balances in full every month, it will have an immensely positive impact on your score.
Gradually take on new credit
More accounts and a diverse range of accounts are both good for your score. On the other hand, you don’t want to open too many accounts all at once. It’s not good for your score and it can make it difficult to manage the new debt.
Instead, space out new credit applications by six months or more. Always make sure you can afford the payments on your existing accounts before you open a new one.
Work your way up to bigger debts
Loans like auto loans and particularly mortgages look good to creditors. So, start with credit cards or small personal loans, then work your way up to bigger financing for major purchases.
If you can’t qualify for a traditional credit card, look into secured credit cards. You can open these accounts with a small cash deposit, regardless of your credit score. This will help you build credit so you can qualify for traditional credit cards.
How do different debt solutions affect your score?
As long as you repay a debt using traditional means, it will generally have a positive effect on your score – even if you repay an account early. This means using solutions like balance transfers and debt consolidation loans shouldn’t negatively affect your score as long as you keep up with the payments.
You can also use a debt management program through a credit counseling agency without damaging your credit. Since you pay back everything you owe, it shouldn’t damage your credit. As long as you keep up with the payments, the program should have a positive effect.
Debt solutions begin to negatively affect your score when you don’t pay back everything you borrowed or charged. Settling any debt for less than you owe will result in a negative notation in your credit report. This remains on your report for seven years from the date the account original became delinquent or seven years form the date of discharge if it was a third-party collection account.
Filing for bankruptcy also has a negative impact on your credit. The notation for a Chapter 13 bankruptcy lasts for seven years from the date of final discharge. A Chapter 7 bankruptcy remains on your report for ten years.
