Credit scores is a topic shrouded in mystery, confusion, and rumors. This isn’t surprising, given that FICO scoring formulas are secret, although we do know the factors that affect one’s credit score.

To bring light to this confusing subject, we’d like to shed light a few common beliefs around credit , and explore whether they are true or false.

If you are a real estate, lending or insurance professional, this information is certainly of relevance to your clients.

1. Checking Your Credit Score Hurts Your Credit Score

This would be False. There are two types of credit inquiries: Hard inquiries and soft inquiries. Hard inquiries are when you apply for credit, whether that is a mortgage, auto loan, apartment rental, or even a cell phone contract. Hard inquiries require your consent in order to apply, that is, a lender must obtain your permission before running your credit.

Hard inquiries will affect your credit score, sometimes by as much as 40 points, although typically, the impact is much smaller.

 

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Soft inquiries, although known as promotional inquiries, don’t affect your credit score. This is the category which checking your own credit reports, through platforms like Credit Karma, will fall in to. So, you can check your credit as often as you wish, without impacting your credit score.

2. You Need A High Income To Enjoy A Strong Credit Score

Nope, this is false. Your salary or income does not appear on your credit reports, nor does it determine your credit score.

It is very much possible to build strong credit, even if your income isn’t very high just yet.

For one, you can arrange for someone else to add you as an authorized user on a credit card, which will boost your score. You can follow that up with secured credit cards (which can be opened for as little as $100 or $200), which will allow you to further build credit (these cards will eventually become unsecured). Before you know it, you’ll have a score of 700 or higher.

By the same token, it is possible to earn millions of dollars every year, and yet carry excessive debt, lowering your score. Don’t let income act as an obstacle to enjoying excellent credit.

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3. Paying Off An Installment Loan Increases Your Credit Score

(Mostly) false. The FICO formula, which determines credit scores, is made up of five factors. One of these factors, which accounts for 30% of your credit score, is the amount of debt you owe, relative to your debt limits or loan values. The largest part of this factor is your revolving account debt i.e. credit card debt.

In order to maximize your credit score, you will want to keep your credit card debt below 30% of your credit limit (i.e. a balance of less than $300, on a $1000.00 card), for all cards. If you can keep your balances below 10% of your limit, you’ll be even better off.

Your installment account debts (i.e. mortgages, auto loans, student loans, and personal loans), play a far smaller role in deciding your credit score, so reducing balance on those accounts, while it doesn’t necessarily hurt, will often have a fairly minimal impact on your credit score.

4. Closing A Card You Don’t Use Will Improve Your Credit Score

False. Again, let’s refer back to #3, where we mentioned that your debts account for 30% of your credit score. In calculating your overall credit limit on credit cards, the FICO formula takes account of your limit, on each card, and adds these numbers together, and divides your total credit card debt, by that number.

Let’s say that you have 3 credit cards, each with a limit of $1000.00. 2 of these cards are newer (opened in the last year), and 1 is older (it’s been open for 3 years). Your total credit limit is thus $3000.00.

Let’s also assume that you have $700.00 in credit card debt. Let’s say that this debt is divided amongst your two newest accounts, with $350.00 in debt on each account, and $0 debt on the oldest account. $700.00 divided by $3000.00 leaves you with an overall utilization of just over 23%.

Suppose that you now close the oldest account, but you maintain the same amount of debt across your accounts. $700.00 in debt, divided by $2000.00 in credit limits, is a ratio of 35%. This will almost certainly harm your credit score, given that it is above the ideal debt ratio of 30%.

Lastly, closing an older account reduces your average age of accounts, which accounts for 15% of your FICO scores. While a credit account that is closed will remain on your credit report for 7 to 10 years after it is closed, in the long run, closing a positive credit account, can reduce your credit score.

5. Getting Married Combines Your Credit Score With That Of Your Spouse

False!

When you marry, nothing in your credit reports and data changes automatically. If you and your spouse maintain completely separate credit accounts, everything will stay the same.

Now, what happens if you both apply for a joint credit account, such as a credit card, mortgage, or auto loan? The account will appear on both of your credit reports, and you’ll be responsible both for ensuring payment on the account, and appropriate debt levels (for a credit card). If your husband or wife is tasked with making monthly payments on the account, and forgets to do so, your credit score will suffer as well.

For this reason, you’ll want to make sure that you have clear arrangements in place, as to who is going to make payments on accounts, and what each person’s responsibility here is. By doing so, as your relationship continues to grow, so will your credit, and ultimately, a positive financial future.

6. You Can’t Get A Credit Card If You Don’t Have A Credit Score

This is a very common belief, in part because many credit cards carry a minimum required credit score. Fortunately, there is a simple but important workaround in these sorts of situations: Secured credit cards. A secured credit card requires you to offer a deposit, which serves as your spending limit. As a result, the risk to lenders has been removed, which lessens any approval requirements they might otherwise be in place. A secured card will report payment history to all three credit bureaus, which allows you to build credit history, as long as you pay on time, and keep your balances low (below 30% of your credit limit).

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In Conclusion

There are lots of false beliefs surrounding credit scores. It is important that you (and your clients) are educated on the truth, so that you can enjoy the best credit scores possible, and the benefits which result from having excellent credit.

Shiva Bhaskar is an experienced consumer credit attorney, and the cofounder of Tier One Credit (www.tieronecredit.com), a credit consulting firm dedicated to helping every American enjoy the best credit score possible. Shiva can be reached by email at [email protected].