Your FICO score is a measure of your credit risk, provided by the Fair Isaac Company with information provided by the three major credit-reporting agencies (Experian, Equifax, and TransUnion). The range is from 300-850, with FICO scores in the mid-700's or higher usually receiving preferred interest rates. Conversely, it can be hard to qualify for mortgages with FICO scores in the mid-600's and below.
How can you improve a poor FICO score? It helps to understand how your FICO score is calculated. Here are the components and percentage of score:
- Payment History (35%) – Do you pay all your bills on time? If you miss a payment, how much is it and how long does it take you to pay it back? Do you have major defaulting events such as bankruptcies or foreclosures?
- Amounts Owed (30%) – This weighs your overall credit accounts, balances and credit utilization (the ratio of available credit to credit in use) to determine whether or not you are overextended.
- Length of Credit History (15%) – A short but stellar history will reflect better scores than a long but checkered history.
- New Credit (10%) – Opening multiple accounts in a short time, especially with a limited credit history, suggests higher risk.
- Types of Credit Used (10%) – This weighs revolving accounts such as credit cards and installment payments such as mortgages. Diversity is good but is secondary to prompt payments.
With that in mind, here are some ways to improve your score.
- Check For Errors – Acquire your credit report and check it for errors. Address any errors as quickly as possible, especially payments incorrectly listed as late.
Make sure you order directly from one of the three credit reporting agencies or through www.annualcreditreport.com, which is the authorized source of free credit reports. You are allowed one free report each year from each agency; check them all because an error could come from any one of them.
- Note that the credit scores provided by the credit reporting agencies are not usually FICO scores. FICO scores may be acquired from myFICO.com.
The agencies use a different algorithm to calculate your score, and any one agency may not have the same collective information to work with. However, errors that are corrected through one agency should be corrected through all three agencies, and therefore should factor into your FICO score.
- Make Payments on Time – By far, the best thing you can do is to make payments on time. Consider having your bills automatically paid from your bank account, or set up automatic reminders. The effect of missed payments will eventually be diluted out.
- Keep Credit Utilization/Balances Low – Credit utilization of 30% or less is essential, less than 10% is preferred. Paying off credit cards at the end of each month helps, but balances are typically a monthly average – so even if it is regularly paid in full, spending close to your credit limit affects your rating.
- Reduce Overall Debt – If you have multiple debt sources, pay down the debt with the highest interest rate first – but make sure to make at least minimum payment on all debts. Merely moving debt around to different accounts will not help.
Of course, the main task in reducing debt is reducing spending. If you are spending more than you can afford, then stop. Identify needs vs. wants, and focus on needs. Eventually, you will have the fiscal discipline to bring back some of the wants.
- Do Not Close Old Accounts – Closing old credit card accounts reduces the overall credit available to you, thus raising your credit utilization, and it reduces the average account age. Opening new accounts just to manipulate your credit utilization does not help, and opening multiple accounts indicates higher risk.
The FICO fairy will not magically appear and instantly correct your poor score. Unless there are errors, most poor credit scores are related to overspending or inattention to payments. Improving your credit score takes time, patience, diligence… and, above all, a plan.
If you would like to monitor your credit to prevent identity theft and see your credit reports and scores, check out our credit monitoring service.