Credit Scoring. It's one of the deep, dark secrets of our modern financial world. While millions of Americans know they have a "credit report," few understand what it means. Even more, if you aren't careful, new, high-tech credit scoring processes will hammer you with higher pricing for your home, car, insurance, and other consumer items.
Let's face it. Banks and other lenders want to lend money and we want to borrow from them. But these lenders also worry that people won't pay their bills. So, to protect their interests, lenders now turn to sophisticated, statistical formulas and complex computer technology to make lending decisions for them. This allows billions of dollars to be loaned faster and more efficiently. But, at the same time, millions of us now pay too much because of the system the banks created to work for them.
This is the foundation for credit scoring. Unless you live on a "cash-only" basis, you have already been scored. The most commonly used credit score is a three-digit number, ranging from 350 to 850. The number rates how much of a risk you are to a lender or insurance company. Lower scores predict higher risks, which create higher prices. Higher numbers indicate less risk and the potential of lower prices.
Now it gets interesting. In the past, if you had steady income and always paid your bills on time, you were in good shape. You could get a fair loan at a fair price. That's not always true anymore. Now, price and interest rates are tied to your score, along with several new factors you may know little or nothing about. You need the highest score possible or thousands of your hard-earned dollars could go down the drain. Here's a "short course" in what to do to increase your credit score, pay lower prices, and save money:
1. Check your credit report. Find out what's really in your report and what your score is. The main credit reporting agencies that keep up with this information are Equifax, TransUnion, and Experian. Each one has a website by that name and also a toll-free contact number. Unfortunately, most people have never checked their report. If errors are present, negative or inaccurate information can severely hurt buying power.
2. Dispute any errors. Research indicates that most credit reports have errors in them. Many of these errors are significant, too, and are causing the credit score to drop dramatically. If you haven't checked your report, you could be paying more than you should and not even know it. Remember, this system is very secretive and lenders have very little to gain from you being informed about your score. If you find errors, report them to the agency that issues your report. Federal law gives them 30 days to investigate and remove any mistakes.
3. Pay all you bills on time. The credit scoring industry admits 35% of their score is based on your history of payment. Paying all your bills on time is the most important thing you can do to get (and keep) a high score. Lenders use computers to report you as late, even if your tardy payment was only an accident. Even paying one or two days late can deflate your score.
4. Reduce your credit card debt. 30% of your credit score is tied to the size of your total debt as a percentage of your total income. This means if you owe too much money for their secret formulas, your score will drop, even if you pay on time. Your best defense is to pay off debt as quickly as you can, or at the very least, keep your outstanding credit or charge card debt less than 50% of the total credit available.
5. Pay more than "the minimum." Paying the minimum required payment is a tactic used by the credit card companies to lead you to stretch out your payments. This allows them to charge you interest for a long, long time. You might even pay for more than 30 years! However, if you pay more than what's required, you'll not only save a fortune in interest, you'll raise your score more quickly because you won't have as much consumer debt listed against your record.
6. Take care of your established credit accounts. Another way to increase your credit score is by having a long, positive credit history with a few lenders. Also, once you've opened a credit account, don't be too quick to close it. Contrary to public opinion, closing unused accounts sometimes hurts your score.
7. Don't apply for new credit unless you really need it. Credit scores typically drop when you request or open a new credit account. So be careful when you open a new charge account. Getting "90 Days, Same as Cash" or even a free floppy hat or beach towel is not usually worth the hit on your score.
8. Check your credit at least once a year. Make this a part of a regular, financial "check up." If you're working to increase your score, check it at least once a quarter and note your progress.
9. Protect your identity. The FBI announced recently that "Identity Theft" is one of the fastest growing crimes in America. Your financial identity is tracked primarily through your social security number, mailing address, and other personal information. Keep this information confidential or you could see financial accounts opened in your name and thousands of dollars added to your credit report that aren't yours. While this problem can usually be corrected, your credit score could suffer in the meantime.
10. Be patient. It will take time for the system to raise your score. But every positive step matters and, in nine to eighteen months, you can raise your score dramatically.
Dr. Kregg Hood preaches, teaches, and consults with churches around the country in the area of stewardship, financial ministry, and helping people understand God's powerful principles for managing money. He has authored three books, including his latest, Escape the Debt Trap. Dr. Hood is also a frequent contributor to a wide variety of Christian newspapers, magazines, radio, and television programs. He and his family live near the Dallas/Fort Worth Metroplex.