Your Money & Your Life
Numb3rs
If you spent much time watching TV between 2005 and 2010, you might remember a program that shared its name with today’s article. In the show, a mathematician helps solve crimes by uncovering patterns hidden in everyday data.
While most of us aren't investigating mysteries, we are surrounded by numbers that affect our lives. Some are financial: our mortgage payment and our checking account balance, the value of our retirement account, and the level of the S&P 500, perhaps the price of gasoline and the interest rate on a car loan. Others are personal: our age, our weight, the number of steps we take in a day.
Among the most important of those personal numbers is our credit score. It’s essentially a snapshot of how a lender might view our creditworthiness. I picked this topic because many people don’t realize how much this single number influences their financial lives. Scores range from 300 to 850 and are based on several aspects of your financial life. The good news is that you don't need a perfect 850. In fact, once you're in the upper 700s, you've entered the range where lenders tend to offer their most favorable terms. Getting into the 800’s is generally considered exceptional.
There are some widely held misunderstandings about credit scores. The first is that couples are rated together. That was generally true until the mid-1970s. Since then, each of us has our own score. Most people understand that these scores matter when applying for a mortgage or other type of loan. Generally speaking, higher scores qualify borrowers for more favorable interest rates, while lower scores often result in higher borrowing costs; sometimes outright rejection. Improving your credit score may be the simplest way to lower the cost of borrowing.
But borrowing is only part of the story. In many states, credit scores also affect insurance premiums since they are often reviewed as part of the underwriting process. While the formulas differ from traditional credit scores, the underlying concept is similar. As a result, maintaining healthy credit habits can potentially lower insurance costs.
Additionally, some employers review credit reports as part of the hiring process, especially for positions involving financial responsibility, and landlords frequently evaluate credit history when screening prospective tenants. In other words, your credit score may quietly influence various aspects of daily life before you ever sit down with a loan officer.
The good news is that credit scores are fluid and can be improved. The first step is making every payment on time. Payment history and length of credit are typically two of the most significant components of a credit score. Even a single missed payment can have negative consequences lasting years.
Next, pay attention to credit card balances. It’s best to keep your utilization below 30% of your available credit limit on each card you have, spreading your balances across all cards. Beyond that, keeping utilization around 10% is one way to help build and maintain a good score. A couple of things that hurt credit scores: closing old, perhaps rarely used cards instead of keeping them (length of credit history is a factor), and carrying a balance (utilization percentages matter, not managing balances).
There are many services with misleading names that claim to provide credit reports, while instead trying to sell you something. Anyone can get a current credit report once a week from each of the three main scoring agencies at AnnualCreditReport.com. Your bank or credit card issuer may also offer access to your credit score. Be aware that the numbers in your report are likely to be different than those a potential lender sees because almost every institution weighs credit factors differently. Still, checking your report and score regularly can alert you that something is amiss. Errors can occur, so identifying mistakes early can prevent undeserved damage to your credit profile.
Finally, be patient as your score improves. Building strong credit is a marathon, not a hundred-yard dash. Achieving a higher credit score takes time, patience, and financial responsibility.
The show Numb3rs demonstrated that numbers often reveal stories hidden in plain sight. The same principle applies to personal finance. Our account balances, savings rates, and investment returns all tell part of our financial story. But few numbers have as much day-to-day influence as our credit scores. Those three digits influence how much you pay, what you qualify for, or how much flexibility you have when important financial opportunities arise. Most people check their financial numbers regularly. I’d suggest adding your credit score to the list.
Warren Ward, CFP®
Senior Investment Advisor
To learn more about Warren or read his previous articles, visit his profile page here.
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