What Is One Mistake That Could Reduce Your Credit Score?
Understand common errors that can diminish your credit score and gain insights to maintain a strong financial profile.
A credit score is a numerical representation of an individual’s creditworthiness, typically a three-digit number ranging from 300 to 850. This score predicts how likely a person is to repay borrowed money on time. Lenders use these scores to evaluate the potential risk when extending credit. A higher credit score can lead to more favorable terms, such as lower interest rates on loans and credit cards, and can influence approvals for mortgages, auto loans, and even rental applications.
Late or Missed Payments
Failing to make payments on time is one of the most impactful actions that can negatively affect a credit score. Payment history is the most significant factor in credit scoring models, accounting for approximately 35% of a FICO Score. A payment is typically reported to credit bureaus as late when it is at least 30 days past its due date. Payments late by only a few days usually incur fees but do not impact the credit score until they reach this 30-day mark.
A single late payment can cause a significant drop in a credit score, particularly for individuals with an otherwise strong credit history. The severity of the impact increases with how late the payment becomes, with 60, 90, or 120 days past due resulting in more substantial damage. These negative marks can remain on a credit report for up to seven years from the date of delinquency, though their influence on the score lessens over time.
High Credit Utilization
Maintaining a high credit utilization ratio can reduce a credit score. This ratio represents the amount of revolving credit currently being used compared to the total available credit limit. It is a major component in credit scoring, often making up about 30% of a FICO Score.
Lenders prefer that consumers keep their credit utilization ratio below 30% of their total available revolving credit. A ratio exceeding this guideline can signal to lenders that an individual might be over-reliant on credit or facing financial strain, even if payments are made on time. A lower utilization rate indicates responsible credit management and is associated with higher credit scores.
Other Actions That Lower Scores
Opening multiple new credit accounts in a short period can also lead to a decrease in credit scores. Each application for new credit results in a “hard inquiry” on the credit report. A single hard inquiry usually causes a small, temporary dip in the score, and its impact diminishes after about one year. However, numerous hard inquiries in a short timeframe can have a compounding effect, suggesting higher risk to lenders.
Opening new accounts can also reduce the average age of all credit accounts, a factor in credit scoring models. A shorter average account age can negatively impact the score, particularly for those with limited credit history. Similarly, closing older credit accounts can inadvertently increase the credit utilization ratio by reducing total available credit, even if balances remain the same. This can also shorten the overall length of credit history, another element considered in credit scoring.