As a country, we have not-so-perfect credit. Taking a page from the book of Chris Rock, other nations may actually decide to stop taking our cash. All kidding aside, in 2013, Standard & Poor’s gave the U.S. a credit rating of AA+ over the long term and A-1+ for the short term. This was a reduction that ranked the U.S. lower than several other nations, like Canada, France, and the United Kingdom (to name a few).
Many of your financial behaviors and decisions impact your individual credit score. Of course, major life purchases like a home or a car affect credit. Paying your bills on time impacts your credit score, as well, and renders you ahead of the game (and many Americans), but that does not guarantee you a perfect credit score, though. The impact of some financial decisions is not as plain to see but can still lower or raise your score.
Here are a few of the not so obvious reasons why your credit score isn’t at its best.
You’re pushing it to the limit
Do you max out your cards? Maybe you use almost all of your available credit and then only pay the minimum balance? If so, you could be hurting your score even if you make on-time payments.
Credit card utilization is a major component of your credit score. It counts toward the “amounts used” portion of your score, which makes up 30% of your score calculation. If you use your cards in a manner that appears responsible to lenders, you are viewed as more credit-worthy. This means that if you frequently maintain credit card balances at or near your limit, your high utilization may result in a much lower score.
It’s easy to make the mistake of over-relying on a credit card. When you have several small balance cards, it is may be exceedingly difficult to maintain a reasonable balance on each. The average card-using consumer has 3.7 credit cards. You may allocate a specific card to a specific expense, and while that does help organize your budget, it sometimes results in unequal spending across the board and higher spending on certain cards.
According to Credit Karma, experts recommend staying below the 30% mark with your credit cards (some recommend 20% or lower). That is, having a balance that is no more than 30% of the limit on each card and 30% of your total collective revolving credit. You can always make payments more than once a month to help reduce your balance.
You open too many accounts at a time
Opening multiple credit accounts simultaneously or within a short amount of time may reflect negatively on your credit score, as well. New credit holds 10% weight on a credit score, and too much new credit, particularly revolving credit, may appear irresponsible or risky to lenders.
This may also decrease the average age of each of your credit accounts, which is considered in another area of your score calculation — length of credit history (15% of your score) — and lowering your average age may lower your score, as well.
For younger adults just beginning to build a credit profile, the relative impact of new credit is more substantial. With little or no credit history to absorb some of the blow, young adults who apply for and obtain every card for which they receive an offer are walking a slippery slope.
Each time you apply for credit, this places an inquiry — a request from a lender to view your credit file — on your report. Inquiries for auto loans and mortgage loans generally do not matter too much, as lenders often view these as one single inquiry, where a consumer is rate shopping. On the other hand, when you have multiple inquiries for revolving credit, these may have a bit of impact. According to MyFico, “Historically, people with six inquiries or more on their credit reports are eight times more likely to declare bankruptcy than people with no inquiries on their reports.” Lenders are aware of this, and assess these and other risk factors when making lending decisions.
All in all, slow and steady is the best approach. Open up one credit card, and then wait a while and see how it goes before opening up another card. You cannot build good credit overnight, and if you attempt to, you will end up hurting your credit more than helping it.
Your credit lacks diversity
When accounts go onto your credit report, they are coded in a certain way. The above chart is from Equifiax, and it displays only a few of the codes you may see on your credit report. If you notice a code like R1 attached to one of your accounts, it tells you (and lenders and scoring formulas) this is a revolving account that is current. Codes allow you and lenders to track and distinguish each account. They also aid in scoring calculations.
The types of credit you have — how many revolving and installment accounts, for instance — impacts your score. This component is 10% of the calculation, because according to the experts at CreditCards.com, statistical models have found a correlation between the types of credit you have and risk in regards to repayment behavior. If you have several credit cards but you have no loans or any other types of credit, this may not look good on your credit file.
Because everyone’s credit profile and history is different, there’s not really a universal distribution you should have. A diverse credit profile, containing a mix of credit — such as a mortgage, an auto loan, and few credit cards — is considered better for your score. It’s prudent to also avoid finance companies and other lenders who tend to charge higher rates, as the goal is to have a profile that reflects your credit worthiness to potential lenders.
If you don’t have strong enough credit (or a long enough employment history) to obtain a credit card, it may be a good idea to start by opening a secured credit card — a card that requires a deposit — and get a little bit of credit history under your belt. You can then work your way up to other types of credit accounts. For more information about the best secured and unsecured cards, and the credit card application process, check out the article: How to Apply For a Credit Card.