5 Things You Need to Know About Credit Scores -- CCCS Demystifies the Credit Rating Process

Most of us already recognize that having a good credit score is important. We know that our credit rating may affect our ability to qualify for a credit card or mortgage and help determine the interest rate or other loan terms we receive. However, many misconceptions surround how credit scores work. That’s why we asked Lori Jankalski to shed some light on this topic. As the Executive Vice President for national nonprofit Consumer Credit Counseling Service of Maryland and Delaware, she regularly presents workshops to help local residents understand and improve their credit scores. She also has an “inside” perspective. Before joining CCCS, she worked for the credit reporting agency Equifax for 40 years.

So what do we need to know about credit scores? Jankalski suggests we start with these five questions:

1. Which Is More Important, Your Credit Report or Your Credit Score?

If you said, “My credit score,” you’re not alone. This is the most common response Jankalski receives when she asks workshop participants this question. However, those of you who responded “my credit report” are correct. “What people don’t understand is that your credit score is based on the content in your credit report. In fact, each time your credit report is accessed, the score may change. That’s why it’s really important to periodically review all three of your credit reports. Make sure the information they contain is accurate. If you find errors, take the time to dispute them.”

How can routinely reviewing your credit report safeguard your credit score? “Say you find a loan account on your credit report that’s inaccurate or that’s listed as unpaid even though you took care of it. Having it on your record could lower your credit score if it makes it look like you have too much credit or are delinquent. If you dispute the account and it’s removed, this may help the next time you apply for credit or a loan. Checking your credit report also allows you to make sure you haven’t been a victim of identity theft.”

Jankalski points out that each of us is entitled to one free credit report from each of the three major credit reporting agencies (Equifax, Experian, and TransUnion) every 12 months. “You can request all three at once or stagger them over the year. To obtain a copy, access www.annualcreditreport.com. That’s the one site where you can request a free credit report with no strings attached.”

2. When Is a Payment Considered Late?

It’s important to know the answer to this question, because 35 percent of your credit score is determined by your payment history. From a credit reporting perspective, a payment is “late” if you’re overdue 30 days or more. “If you make a habit of being late or missing payments, it can ruin your credit score.” Jankalski says, “If you normally pay your credit card on time and are late once, your score might drop 10 points. If you’re late on a secured loan, it’s a lot more serious. This could lower your score a whopping 100 points.”

3. How Does Reducing the Amount You Owe Increase Your Credit Score?

Finding ways to reduce your balance on credit cards is likely to improve your credit standing, because 30 percent of your credit score is based on your outstanding debts. Jankalski explains, “Credit scores rely on a formula called the debt utilization ratio. It compares the amount of credit you’ve actually used to the amount that’s available to you. For example, a credit card company may place your limit at $5,000, but you currently have a balance of $500. This would place your ratio at 10 percent. It’s preferable to have a ratio below 35 percent on each card and overall.”

Jankalski cautions, “If you do have a high debt utilization ratio, this is a sign you aren’t in control of your finances. To increase your credit score, find a way to pay off as much debt as possible. Set up and stick to a budget. Look for ways to reduce your expenses. If you need help doing this, CCCS offers free budget and credit counseling. We can provide you with a strategy to get back on track and restore your credit score.”

4. Should You Close or Open Credit Card Accounts to Raise Your Credit Score?

We sometimes hear that it doesn’t pay to close credit accounts if you hope to maintain a good credit score. Is this true? Jankalski says, “It depends. If you haven’t used a credit card for a long time and you aren’t carrying any balance on it, this is actually a good thing from a credit score point of view, because the card increases the amount of credit you have available, and doesn’t add to your debt load. However, closing it probably won’t hurt you either. What you don’t want to do is close a number of accounts all at once, because it will significantly affect your debt utilization ration and lower your score.”

Some consumers also believe that opening credit accounts will increase their credit score. Jankalski says, this generally isn’t true. “If you’re just starting out and you don’t have a credit history, opening an account with a retailer or credit card may make sense, because it allows you to get your name on the map. But opening an account every time a retailer or credit card company offers you discounts or rewards isn’t wise. The more credit you have, the more you’re bound to use. Credit scorers like FICO views this as a risk, because you could easily become overextended, and this in turn may lower your score.”

5. Can a Credit Repair Company Fix Your Credit Score?

Once you have poor credit, it takes time and effort to restore it. That’s why many consumers in this position consider using a credit repair company. These firms often claim they can fix your credit report or change your score, but do they really help? Jankalski isn’t convinced they do. “Anything a company can do to repair your credit report, you can do yourself. For example, if you find an error, you can dispute it. However, if the negative information on your credit is accurate, it can’t be removed. You could end up paying hundreds of dollars just to find this out.”

So what’s the best plan of action if you want to increase your credit score? Jankalski says, “The two most important things you can do are pay your bills on time and keep the amount you owe on credit cards to a minimum. If you need help accomplishing these goals, don’t be afraid to reach out. It may take some time, but with discipline and effort, you will build a better credit score!”

If you need help developing a plan to improve your credit score, call CCCS for a free financial counseling appointment at 1-800-642-2227. Advice is provided by phone or at one of the agency’s local offices. If you would like to know more about CCCS’s services visit its website, and while you’re there, check out “What’s Your Credit Score?” It’s a free, self-paced online course that will give you even more information on how credit reports and credit scores work.

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Consumer Credit Counseling Service of MD & DE, Inc. (CCCS) is an accredited 501(c)(3) nonprofit agency that helps stabilize communities by creating hope and promoting economic self-sufficiency to individuals and families through financial education and counseling. CCCS MD State License #14-01