At some point in your life, you will want to borrow money from a bank to purchase a house, car or apply for some type of loan. So how do banks and other financial institutions decide whether or not to lend you money, how much you can borrow and how much interest you will have to pay? The short answer is your credit score.
You might be wondering, How do banks come up with my credit score?! Do not worry; the average American has no idea either, but let’s change that.
Banks Base your Credit Score On These Simple Questions:
1. Do you Pay Your Bills On Time
This question is unequivocally the most important. If you have not paid your bills on time, banks and financial institutions will see that on your credit report and deem you a liability. From their end, they want to loan money to individuals they are confident will repay the loan. If you have ever had an account referred to a collection agency or have declared bankruptcy, this will negatively affect your credit score.
2. Do you Have Outstanding Debt?
In an ideal world, you are debt-free, but the reality is debt is quite common. Over 45 million Americans have some sort of debt associated with college student loans. Debt will not negatively affect your credit score as long as you make consistent and on-time payments.
Debt starts to severely hurt your credit score when your amount of debt is equal to or exceeds your credit limits. If this describes your situation, your first order of business is to focus on decreasing your debt.
3. How Long Is Your Credit History?
Sorry teenagers and young adults! One of the most influential factors to your credit score is the amount of time you’ve had accounts open. A short credit history typically has a negative effect on your score, but it may help you in some instances. If you recently opened a new credit line and showed banks that you consistently make payments, you should see your credit score rise over time.
4. Have you Recently Applied For a New Credit Card?
When people apply for new credit cards, this process lowers their credit score in the short term. Applying for new lines of credit is seen as a negative factor and is a “hard inquiry.” A hard inquiry is whenever a person applies for new credit cards, a mortgage, an auto loan, or other forms of credit.
If you apply multiple times in a short period, it can severely hurt your credit score. Banks will believe that you’re facing financial difficulties and desperately need money, therefore making you a potentially riskier client.
5. What Type Of Credit Accounts Have You Opened, and How Many Lines of Credit Do you Have?
Banks and financial institutions factor in the type of credit accounts you have. It would be best to have a mix of loans, credit cards, and open credit in a perfect world. Having a variety of credit lines will benefit your credit score.
However, if you have too many lines of the same type of credit, for instance, you have 5+ credit card accounts and no other lines of credit, Banks will be cautious of you and subsequently lower your credit score.