Improving Your Credit Score

You need credit to buy a house, and the better your credit score is, the lower your
interest rate will be. The lower the credit score, the higher the interest rate, and the
higher your settlement charges will be.

You could manipulate your credit score if you knew how your score is scored. Then use
the information to make adjustments, so you can buy or refinance a home and have a
lesser monthly payment. Although I don’t do credit restoration, I spent a considerable
amount of time researching the project for my clients, and this is what I have found.

Your credit score is largely impacted by five factors:

• 35% of the score is Payment History. Perfect score is 297.5 points.
• 30% Amounts Owed. Perfect score is 255 points.
• 15% Length of Credit History. Perfect score is 127.5 points.
• 10% Types of Credit In Use (Credit Mix). Perfect score is 85 points.
• 10% New Credit. Perfect score is 85 points.

A perfect overall score is 850, the lowest is 300. Most of the time, the minimum score
you need to buy a house is 620. If you are less than 620, by making some adjustments
on your credit you could reach the 620 score as fast as two weeks if your lender does a
“rapid rescore”. The best interest rate is obtained with a score of 720 and above.
A good way to find out how many points your score would go up if you were going to
work on it is to ask your lender if he has a “what if credit score simulator”. This
eliminates the guess of how many points would your score go up if you pay this or do
that.

Alternatively, you can intelligently “guess” how much it could improve on your own if you
know your score. After you understand how your score is computed, I will tell you the
simple formula that it may give you an idea of how much it could improve.

Payment History – 35%

This category represents 35% of your score and includes the amount of credit you
have used, your borrowing and repayment habits, and if creditors have had to resort to
using collections agencies or the legal system in an attempt to get you to repay your
debts.

When considering whether or not to lend you money, the primary goal of a potential
lender is to determine what the odds are that you will not repay the debt. Your payment
history is one of the primary indicators that they have of you whether or not you’ll repay
your debt. The assumption is that you will continue to pay in the future as you have
paid in the past.

• Do not pay anything more than 29 days late.
• 30 days late or more in the past 12 months are the most damaging to your score.
• It pays off to hire a credit restoration company to remove negative reporting.

Account Balances – 30%

This category considers both your installment loans (e.g. a mortgage or car loan) and
your revolving accounts (e.g. credit cards, lines of credit). However, your revolving
balances typically cause this category to fluctuate (positively and negatively) more than
your installment accounts.

It is how much you owe compared to the credit card’s limit. If you have a $5,000.00 limit
card and you owe $2,500, your utilization ratio is 50%. Add up all your limits on all your
balances and divide your total balance by your total limit, and that’s your overall debt-to-
limit ratio. The lower the overall ratio, the better the score. The maximum score you
could have in this category is 255 (30% of 850) having all accounts with zero balances
considering two types of utilization ratios:
1) your overall utilization ratio (discussed above) and
2) your individual utilization ratio (per each account)

• If you can’t pay down the debt, ask for higher credit limits from your credit card
companies. Higher limits equal better debt-to-credit-limit ratios.

• Become an authorized user in someone else’s account positive credit card
account (with their permission). This will allow the additional available credit to appear
on your report and lower your overall utilization ratio–which could lead to score
improvement.

• Pay down any cards that are over-the-limit until they are within the limit. This
should help you avoid additional over-the-limit fees too.

• Pay down your balances so that no debt’s “utilization ratio” is higher than 50% –
ever.

• Once below 50%, start paying cards completely off one at a time. Don’t close
them once they’re paid – ever.

• If financially possible, pay off your credit card balances to zero monthly.
Alternatively, to less than 20%.

Credit Length – 15%

The “Length of Credit” category analyzes how long your credit accounts have been
open. Typically, the longer your credit history, the better your score will be. The
maximum score you could have in this category is 127.5 (15% of 850). For you to have
the perfect score you need 30 years of history – 4.25 points per year you have had an
account open.

A good idea would be to become an additional card holder on someone else’s positive
credit card account (with their permission). This will in turn allow that positive credit to
report on your credit report as well. So if you have zero credit history and your friend’s
card was opened ten years ago, you may then automatically see ten years of positive
credit history added to your credit bureau report very quickly (automatically raised by
42 points).

Negative history will count against your credit score all the same. Moreover, if he or she
maxes out the card, this will negatively affect your credit score as well. Remember that
you always have the right to be removed as an authorized user should the account turn
negative.

To positively influence your credit score, the accounts you add must reflect an excellent
credit history, have very low balances (less than 20% of the credit limit), and, ideally,
should have a positive credit history of at least two years.

Credit Mix – 10%

“Credit Mix” category represents 10% of your score. Interestingly, if your credit portfolio
includes unsecured credit lines from a Bank (other than credit cards) like personal
signature loans, the scoring model may consider you a higher credit risk. These type of
accounts are most often acquired by consumers who can’t manage their other credit
accounts without them. Unfair as it may seem, the FICO® score model may penalize
those who apply for and obtain this type of credit.

Additionally, if you only have credit cards, gas cards, or store card accounts (revolving
accounts), and have no record of repaying an automobile or mortgage account
(installment account) over a period of years, your score may also be negatively
impacted.

New Inquiries – 10%

The “New Credit” accounts for 10% of your credit score. This category is impacted by
the number of times you apply for credit. Most scoring models consider consumers that
open or apply for new credit accounts in a short period of time as a higher risk. Every
time a credit grantor (e.g. car dealership, bank, credit card) looks at your credit file, a
hard inquiry appears on at least one of your credit bureau reports. These hard
inquiries remain on your report for two years, however they only impact your score for
the first year.

Most scoring models will also account for rate-shopping. Basically this means that any
mortgage, auto, and student loan related inquiries within a 14 day period are only
counted as one inquiry. This way you are not penalized for looking for the best rate on
one loan. Keep in mind this only accounts for mortgage, automobile, and student loan
installment loans; not credit cards or other revolving accounts.

In addition, if you find a loan within 30 days, the inquiries won’t affect your score while
you’re rate shopping. The score counts those inquiries as just one inquiry when
determining your score.

How do you build credit with no credit?

You can start with a secured credit card, which requires a deposit as collateral to
secure the card’s line of credit. Secured cards, because they require you to deposit
money, are easier to obtain than a regular unsecured credit card. You need to check
that the secured card’s issuer reports account activity to the three major credit bureaus
(Experian, Equifax and TransUnion).

Then, you should use that secured card for small purchases and pay off the entire
balance each month. The credit bureau doesn’t care how much you’re paying. They
just want to see those on-time payments and that your history is being built up.
Closing Accounts. While you might consider closing an unused or unwanted credit card
to be a smart financial decision, because of the way your utilization ratio is calculated,
the FICO score doesn’t always see it that way.

Say you have a 20-year-old credit card and a 5-year-old credit card and no other
loans. That means your credit history, in FICO’s eyes, is 20 years long. However, when
you cancel the oldest card and it eventually falls off your credit report (in either 10
years or 7 years, depending on your circumstances) that card will no longer be counted
in your credit history. You will have basically trimmed your credit history by 15 years,
the difference between the ages of the cards, and that can have an impact on your
credit score.

Closing an account can have a more immediate impact on the borrower’s utilization
ratio – the amount you owe compared to your credit limit – which could also hurt their
FICO score. When considering length of credit history, choose to close carefully.
“Always go with a high interest account you haven’t had for too long,”

As an example, imagine you have two credit cards, each with a $500 credit limit, for
total available credit of $1,000. One of the cards hasn’t been used for a while and has
a zero balance, while the other card has a balance of $250. That gives you a utilization
ratio of 25 percent — your $250 balance divided by your total $1,000 credit limit. You
then close that unused card, eliminating the $500 credit limit associated with that
account. Now, you’ve only got $500 in total credit available on that one card, but you
still have $250 in debt. Suddenly, your credit utilization ratio has jumped to 50 percent.
If you max out a credit card account by using up an entire line of credit, expect your
FICO score to drop by 10 to 45 points.

Just how much damage does a hard inquiry do? For most people, it amounts to a loss
of fewer than five points. But it can vary. Inquiries can have a greater impact for
someone with a short credit history and few accounts than for someone with a long
history and wide range of credit experience.

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