By Devon Johnson, WEV’s Director of Lending
I was having coffee the other day with a girlfriend and we got to talking about credit reports and credit scores – yes, I know, that probably doesn’t sound like the most interesting topic but, well, that’s us. And she brought up the question of whether it helped or hurt your score to keep a small balance on her credit card. She’d heard this but didn’t think it was true.
This question has come up repeatedly and often people look at me skeptically when I tell them that no, you don’t want to carry a balance if you don’t have to. The best practice would be to pay your credit card in full each month to help keep your score as high as possible. After our conversation, I got to thinking…what other Credit Myths are out there? I decided to ask around to see what questions people had or what information had they heard that they weren’t sure was true or not. Below are some of the statements that came up most frequently.
Leaving a small balance on my card each month will help improve my credit score.
I’m sure many of us have heard this one and it simply isn’t true. Period. Paying on time and in full is what you want to strive for.
Closing old accounts will improve my score.
Nope. Another myth. Closing older accounts can actually hurt your score since your length of credit history is a factor in determining your overall score. Keeping your older accounts open will develop your credit history of responsible credit management. These days you’ll need to use those cards a few times a year (paying each off quickly) to help ensure the credit issuer doesn’t close your account due to inactivity. Don’t rush off and open a bunch of accounts either – opening too many too quickly can lower your score.
Something else to consider – you may end up lowering your debt-to-available-credit ratio by closing accounts, which could lower your score. One of the main factors influencing your credit score is your credit utilization rate aka debt-to-available-credit ratio. This is basically the percentage of your available credit that you’re using at any given time. For example, say you have 2 credit cards and one has a $10,000 credit limit and the other has a $5,000 limit. You’re carrying a $3,000 balance on your $10,000 card and $0 on your $5,000 card, making your debt-to-available-credit ratio 20% ($3,000 divided by your total available credit of $15,000). If you decided to close your $5,000 card, your ratio would increase to 30%.
It’s best to keep this ratio below 30% for good credit health. There are times that closing a credit card makes sense. For instance, a card you don’t use but that has a high annual fee. Overall, your goal is to keep a long credit history and keep your debt-to-available-credit ratio under 30%.
Having a high credit limit will hurt my score.
I heard this one 15 years ago and I know I helped perpetuate it because it seemed to make sense. Later I learned that having more debt can actually be good for your credit score – the key is managing it responsibly. Making timely payments on your car loan, your credit card(s), or mortgage proves that you’re a reliable borrower. Lenders consider your past payment history as an indicator of how you’ll pay in the future. With limited to no credit, lenders can’t make this assessment, and will often consider you a riskier borrower.
This also ties into your debt-to-available-credit ratio. Having too little credit can cause your ratio to be higher than 30%.
My spouse’s credit score can affect my score.
Not true, unless it’s a joint account. Credit history is reported on all joint account users. If all payments are on time, you’ll both benefit. If payments are late, both of your scores will be negatively impacted.
Once I pay off a delinquent record, it will be removed from my credit report.
Late payments will remain on your report for 7-10 years from when they were reported. Paying off a delinquent account will be reported as “paid” and a paid account is always better than an unpaid one; both for your score and from a lender’s perspective.
I only have one credit score.
You actually have dozens of scores. There are three major credit bureaus (Equifax, Experian, and TransUnion) and they each have a proprietary credit scoring model, in addition to other scoring models based on what a particular type of lender wants to evaluate. For example, an auto lender will want to consider slightly different factors than a mortgage lender or a credit card company.
It’s impossible to achieve a perfect score.
It is possible if you pay your bills on time and have the right mix of credit, but that perfect mix of credit and “good” debt is difficult to determine. Plus you have to maintain a perfect record for 7 years. I haven’t seen a perfect score in my career but I’ve seen scores above 820. In general, 750+ is considered very good and should allow you to obtain the best interest rates available.
My score will drop if I check my credit frequently.
Nope, not true. In fact, I’d recommend you review your credit report three times a year. Since the three major bureaus (Equifax, Experian and TransUnion) will each provide you a free copy of your report every year, you might consider pulling one of them every 4 months to make sure all of the information is accurate.
Have you heard of a hard inquiry or soft inquiry? Hard inquiries occur when a lender checks your credit to determine whether or not to lend to you, like when you apply for a credit card or mortgage. This type of credit check will ding your score a few points, although the impact will lessen after just a couple of months.
A soft inquiry occurs when your credit is checked for any other reason—with some exceptions. When you check your credit, it’s a soft inquiry, and it won’t hurt your credit score at all. The same goes for when an employer checks your credit. The tricky part is that some credit checks can be either hard or soft, like when you open a new bank account or apply for an apartment. When you know a credit check is going to be performed, you can ask to see what kind of inquiry it will be.
Paying off my debt will add 50 points to my credit score.
I hadn’t heard this one before, but a quick Google search proved this myth must be out there because multiple sites mentioned it. While your score will improve by paying off debt, there is no specific set of points it will increase. It would be close to impossible to know how it would specifically affect your score since credit scores are calculated using a complex equation taking into account hundreds of factors and values. Paying off your debt is always a good thing – just don’t necessarily close the account once it’s paid.
So, how did you do? Are you a credit whiz and knew everything, or did some of this surprise you? We probably all know how important it is to maintain a good credit score, but what about knowing what goes into determining that score? It can be a challenge and that’s probably why so many myths are still circulating out there. If you’re looking for more information about your score and credit reports in general, www.annualcreditreport.com or www.creditkarma.com are two useful sites.
What other credit myths have you heard?