3 Credit Traps You May Have Fallen For
If you work hard to pay your bills on time, you might assume that your credit is in good shape. After all, isn’t paying your bills what credit scores are all about?
Not so fast. Yes, making on-time payments is a big part of earning and keeping great credit scores. However, your payment history only accounts for a little over one-third of your FICO Score.
There are several other factors that influence your credit scores as well, including some that have nothing to do with how you pay your bills each month. If you’ve been focusing solely on your payment due dates, you may not be building as much credit as you think.
3 mistakes damaging your credit scores
Here’s a look at some common credit traps that could be hurting your credit scores. Learn about these mistakes now and you’ll be able to fix them or perhaps avoid them altogether in the future.
1. Not checking your credit reports
Your credit reports play an important role in your financial health. Yet despite the frequency of data breaches and identity theft, more than a third of Americans have never bothered to check their credit reports, according to a Harris Poll conducted by the American Institute of CPAs.
Although creditors and the credit bureaus are required by law to include only accurate information, the truth is that errors occur. These companies are run by humans, and humans make mistakes. On top of potential credit reporting mistakes, identity thieves claim millions of victims each year.
Assuming that your credit reports are fine could potentially cost you. Derogatory marks on your credit reports could damage your scores, whether they are supposed to be there or not.
Federal law, and specifically the Fair Credit Reporting Act, requires the credit bureaus to include only accurate information on your credit reports. However, it’s your responsibility to review your credit reports often to make sure that the information that appears there is correct. If you find mistakes, it’s also up to you to ask the credit bureaus and your creditors to correct the problem by submitting a dispute.
It boils down to this: you have to be proactive when it comes to monitoring the health and accuracy of your credit reports. Thankfully, the federal government has made it a little easier to accomplish this task. You can visit AnnualCreditReport.com and claim a free copy of all three of your credit reports once every 12 months.
2. Not paying off your credit cards every month
You might not realize it, but keeping an outstanding balance on your credit card every month could potentially damage your credit scores. This is true even if you never miss a single payment due date.
FICO and VantageScore, two of the most popular credit scores in the United States, both design their scoring models to consider “revolving utilization ratio.” Revolving utilization can be described as the percentage of your credit limit used on your credit card accounts. Here’s a quick look at how revolving utilization is calculated:
Credit card balance ➗ account limit ✖ 100
$500 credit card balance ➗ $1,000 account limit ✖ 100 = 50% revolving utilization ratio
When your revolving utilization ratio climbs, it indicates that you might be a riskier borrower for future lenders to take on as a customer. So, when revolving utilization goes up, your credit scores may be impacted negatively.
Thankfully, you can pay down your credit card balances to lower your revolving utilization ratio and reverse most of the damage. In fact, paying down credit card balances is one of the most surefire ways to give your credit scores an upward boost.
3. Not knowing when to say no
We all like to help out friends and family when we can. However, cosigning for a loved one’s financial obligation can sometimes be the kiss of death for your credit.
There’s no such thing as being “just” a cosigner. If you cosign, you’re agreeing to be held equally responsible for the debt. It’s just as serious as if you were the primary borrower on the account.
When you cosign for certain types of accounts (e.g. credit cards, auto loans, student loans, mortgages, etc.), the account will most likely show up on your credit reports as well. This means that if your loved one makes a late payment on the account, your personal credit scores could experience serious damage.
Even if your loved one always keeps the bill paid on time, cosigning can still cause you problems. For example, if you cosign for a credit card and the account is heavily used, your credit scores could suffer. Additionally, if you try to apply for a new loan of your own, the account that you cosigned for will most likely be included in your debt-to-income ratio calculations. Translation: your liability for the cosigned loan might keep you from qualifying for other credit.
Increasing your credit scores requires time and diligent effort. It also requires you to avoid common credit traps that could damage your scores and derail your progress. In fact, when it comes to credit, knowing what not to do is just as important as understanding what you should be doing to earn better scores.