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Credit Management Basics: How to Manage Your Credit Like a Pro

Cecily Kellogg November 28, 2018

Before learning about credit management, you should understand what a score is and what it means. Unfortunately, this is a step many people have not taken. In 2016, the National Foundation for Credit Counseling and the Boeing Employees Credit Union collaborated on a study to understand how financially literate the population of the United States was.

Among many others metrics, they found that 36% of participants did not know of any reason why they should know their credit score. For those of us that understand the financial world and how important credit scores are, this is troubling news. What is more uplifting is the fact that information is more readily available than it has ever been.

For this reason, less experienced people can learn what a credit score is, why it is important, and how to manage it like a pro.

Your Score and What it Means

First, let’s explain what a credit score is. Essentially, it is a rating of how reliable you are to lenders. If a credit card company or bank looks at your score, they can assess whether or not they want to lend to you. While this metric is not always an accurate reflection of your reliability, lenders need a quick and straightforward way to judge risk.

Given that the typical consequences of a low score are loan denials and high interest rates, it is critical that you optimize your score as much as possible. Before doing so, you need to know what that number is. When you obtain your credit score, it will come in the form of a three digit number. The following ranges and their descriptions are standard in the financial industry.

  • Bad: 300-629
  • Fair: 630-689
  • Good: 690-719
  • Excellent: 720-850

Once you receive your score, your next step is understanding it. The following are the five factors that affect your score, with their importance indicated by a percentage.

  1. Payment History – 35%
  2. Current Debts – 30%
  3. Length of Credit History – 15%
  4. Kinds of Credit – 10%
  5. New Credit – 10%

As you can see, the world of credit scores is not as complicated as it seems. Instead, your score is a reflection of five relatively simple metrics. In the sections below, we will explain how you can optimize each of these five aspects through responsible credit management.

Pay Your Bill on Time Every Month

This habit affects the “payment history” portion of your credit score, which is the most important factor of the five. As you might imagine, one of the most important habits that lenders look for is your willingness to pay your bills. If you miss one payment, your score will not suffer significantly, but missing habitually will. If you have a past of not paying your bills on time, you will likely have a low score. The good news is that if you start paying on time every month, your score will begin to rise. To do so, use scheduling and productivity tools to notify you whenever a payment is due. If your bill is a credit card, you can set up automatic payments and never have to worry about them. Whichever route you choose, paying on time every month is a crucial credit management habit.

Eliminate Credit Card Debt

Many people think that as long as they make their minimum payments, their credit score will not suffer. Unfortunately, this is not the case. Another factor that lenders look for is how much debt you have. If that debt is from a home or car, it will not impact your score significantly, but credit cards are different. If you carry a large balance on a card, it signals to financial institutions that you spend more than you earn. This makes you a risky lending option and will lower your score. If you have credit card debt, you need to prioritize paying as much of it as you can. That means that every month, you should make more money than you spend. This way, you can use that excess cash to eliminate your debt.

Once Debt is Eliminated, Pay in Full Every Month

After you get out of credit card debt, you should ensure that you never get back into it. The best way to do so is by creating a budget. For this, you can use one of many internet applications or do it manually with a pen and paper. Either way, you should look at your spending column and decide what expense you can’t cut. When you do, you’ll eventually have a balanced budget and the ability to pay your card in full every month. After that, you can go even further and give yourself a surplus every month, which can go into savings and investment. One additional benefit of responsible use is that every month, your credit history grows. Length of history contributes 15% to your score, so its effects are not trivial. After years of making payments, you will see your score rise.

Keep Your Utilization Low

Next on your credit management checklist is keeping your utilization low. This metric reflects how much of your total credit you use on a month to month basis. The worst thing you can do is carry a hefty balance, which we addressed above. That being said, you can pay in full and still end up with utilization issues. The reason could be that, despite being able to pay them, you have significant expenses that use a large percentage of your credit limit. To solve this problem, you can either lower costs or negotiate with your credit card company to raise your limit. If you are in good standing with your credit provider, obtaining a credit limit raise should be straightforward.

No New Cards

If you review the five factors that contribute to credit scores, you will find that new credit is one of them. What this means is that every time you open a new line of credit, your score suffers. To avoid this trap, you should never open a credit card without an excellent reason to do so. This likely goes without saying, but a large signup bonus or a discount at your favorite department store does not meet that criterion. Credit management is all about discipline, and this is an area where you must exercise it.

Use Multiple Types of Credit

The last credit score factor that we have not addressed is kinds of credit. What this aspect refers to is having varied sources of debt. For most, this means credit cards, cars, and homes. While this may seem like a bad thing, it actually positively impacts score. The reason is that, as long as you pay on time and in full, having many types of credit proves that you can handle varied kinds of debt.

Regularly Check For Errors

Part of credit management is factoring in other people, not just yourself. An example is one of the most frustrating factors that can lower your score: Financial institutions making mistakes. Often, they list the same missed payment twice or commit some other damaging error. To protect yourself against this, obtain a credit report from AnnualCreditReport.com every year. When you do, scan for errors and if necessary, dispute them with the offending credit bureau.

Beef Up Your Security

Another way credit scores drop is through identity theft. Fraud comes in many forms, but the most common is somebody using your credit card or opening one in your name. Either way, your score will suffer, at least temporarily. One of the best ways to make sure this doesn’t happen is increasing your security online through strong passwords and responsible shopping.

When you educate yourself on the world of finance, you realize that your credit score is extremely important. For this reason, optimizing your it through credit management tactics is well worth your time. Luckily, you now possess the tools and knowledge to do so.

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