Why Is My Credit Score Dropping?
When you’re working hard to maintain good financial habits, your credit score is a good indicator of your progress. Your credit score is a three-digit number that indicates to creditors your borrowing risk and your ability to pay bills on time.
If you regularly track your score and see a dip, you may ask, “Why did my credit score go down?” While there are plausible explanations for a drop, as well as steps you can take to keep your score up, it’s important to remember that credit scores are fluid numbers that can move based on your credit activity.
That said, keeping an eye on your credit is a wise decision and can help explain why your score may slip, even just temporarily.
How your credit score is calculated
Credit scores are based on a formula created by Fair Isaac Corporation, or FICO, which is the standard that most lenders use in decision-making on loans and credit card applications. These scores range from 350 on the low end to 850, which is a perfect score. Where you fall in this range impacts your ability to get loans, favorable interest rates and credit cards.
Consumers with higher credit scores are considered less risky to lenders, while those with lower scores are deemed more high-risk. The higher your score, the more likely you are to be approved for credit, and with favorable rates to boot.
While you may not be in the market for a new loan or credit card today, you could be in the near future. That’s why it is important to stay in the know and monitor your credit. The more familiar you are with your credit score and how your financial decisions impact it, the better positioned you’ll be to make smart choices and maximize borrowing opportunities.
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Your credit score is based on five components:
- 35%: Your bill payment history
- 30%: How much you owe on credit cards and loans
- 15%: The length of your credit history
- 10%: The mix of loans you have, including credit cards, installment loans and home loans
- 10%: Recent credit activity, including opening new accounts
It’s important to remember that credit scores are not static and your number can fluctuate depending on your credit-related activities. For example, if you apply for a new credit card, your credit score could temporarily drop, as the credit card company will request a hard pull of your credit report, which can lower your score. If you’re approved and start making purchases with that new card, your score could also dip, as you’re taking on new debt and changing the amount of credit you’re using.
Similarly, if you apply for an auto loan or home loan, your credit score could also tick down. If you’re late or miss payments on bills, that can also hurt your score. On the flip side, if you pay off a loan or make on-time payments, your score could go up.
7 factors that can cause your credit score to drop
1. Late payment, missed payments or collections
The impact from past-due payments depends on how late your payment is, how recently you missed and how many payments you’ve missed or paid late. A payment that is 60 days late will hurt more than 30 days, while a pattern of late or missed payments will impact your score even more. If you can’t pay the entire amount, at least pay off some amount on time, credit agencies advise. Late payments can stay on your credit report for seven years.
If you fail to make payments for a period of time, creditors may refer your account to a third-party collections agency, which can further hurt your score. Collections can also stay on your report for seven years.
A bankruptcy filing negatively impacts your credit score, as lenders may be wary to extend credit or charge higher rates. Depending on the type of bankruptcy, negative information can stay on your credit report for up to 10 years.
3. Closing an existing credit card
If you have an old credit card you haven’t used in a while, you may be tempted to close it. However, since credit history is a factor in your score, closing established credit lines can hurt your rating. When you have older credit cards and a proven track record of paying on time, that helps your credit score, according to Nathalie Noisette, a credit advisor and founder of credit counseling and repair service Credit Conversion. “A 15- or 20-year card has more bearing than a newer card. It puts you in good standing,” she said.
4. Applying for a new credit card or loan
When you apply for new credit, your lender will likely access your credit report and this “hard pull” can impact your score. If you apply for multiple forms of credit, such as a new card, a car loan and a personal loan, these multiple inquiries can also cause your credit score to dip.
5. Inaccurate information or fraudulent activity
If your identity has been compromised and someone fraudulently applies for new credit, including credit cards, this could result in a drop in your score. Also, incorrect information, such as an error in bill payment history, could harm your score.
6. How much credit you are using
In credit reporting, the term here is credit utilization, which means how much of your available credit you’re currently using. Experian advises that a healthy debt ratio is 30% of all your available credit, including multiple cards and loans, while TransUnion says the ratio is closer to 35%. So if you have a credit card with a $1,000 limit, Experian suggests using $300 of the available funds, while TransUnion would go up to $350.
If you make a large purchase or take on a new loan, that will increase your credit utilization and your score could temporarily dip. “Pay your bills on time and try to keep your credit usage low,” Noisette advised.
7. Making a large purchase
If you charge a large amount on your credit card, you could be approaching your credit limits. This could cause your credit score to drop as a warning that you’re utilizing a larger percentage of your available credit.
The actual impact of each of these activities on your credit score will vary depending on your current score, the severity of your negative activity and your credit history.
8 ways to get and maintain a healthy credit
If you’re looking to improve your credit score or just want to keep it going strong, there are steps you can take to maintain a healthy credit score.
- Pay your bills: The single most important step to a strong credit score is paying your bills on time. If you can’t pay the entire balance, make as large a payment as you can.
- Don’t max out your cards: Since credit utilization is an important factor in your credit score, it’s important to keep your balances manageable. If you approach your spending limit, you’ll be seen as stretching your financial capabilities to pay on time.
- Stay informed: To avoid any surprises, if you’re going to apply for a new credit card or loan, you could check your credit in advance.
- Mix up your credit: Your credit score will get a boost if you have a variety of loans and credit, as this is an indication that you are a lower risk and responsible borrower. Consider a diverse portfolio of credit cards, installment loans, auto loans and mortgage.
- Think twice about getting new cards: While it may be tempting to take advantage of promotions on new credit cards, each hard pull impacts your score. Plus, each new account means another bill to pay and manage.
- Pay down your debt: Paying off your credit cards and loans indicates financial responsibility and lowers your credit utilization ratio, both of which can boost your score.
- Enroll in autopay or subscribe to alerts: To make sure you pay your bills on time, you can agree to have a lender automatically deduct your payment from a bank account or have bills paid by your credit card. You can also subscribe to email and text alerts to remind you when bills are due and how much you need to pay.
- Get help: If you’re struggling to manage your debt and pay bills, you can seek assistance from a credit counseling service. Some services, including Noisette’s, are fee-based, while others are available for free. The U.S. Department of Justice maintains a list of approved credit counselors.
Why you shouldn’t obsess over your credit score
The fluidity of credit scores means they could change daily, moving up or down depending on your activity. Your credit score plays an integral role in your financial capabilities, which is why it is so important to stay informed and make smart financial decisions.
However, there’s no need to check your score constantly and berate yourself over the smallest changes. Noisette says consumers shouldn’t panic if their score fluctuates in a 20-point range. If it drops 50 to 70 points, however, she said she would encourage a client to investigate potential explanations for the shift and confirm you’re responsible for any inquiries, rather than suspicious activity.
If you have good financial habits and maintain awareness, you should be able to understand small shifts in your credit score. For instance, if you’ve opened new credit cards or made a large purchase, that could explain a drop. If you pay your bills on time and pay off balances, your score should rebound.