Going to grad school. Buying a home to call your own. Landing a dream job.
These are major milestones that many of us have on our #lifegoals list, but they also have something else in common: You’d probably have a much easier time accomplishing them with good credit.
After all, you’re more likely to nab a low-interest rate on private student loans, qualify for a mortgage or pass an employer’s background check if you have a history of responsibly managing your credit.
Our point is that your credit can greatly influence your ability to make progress on big financial goals—and that’s why it’s so important to make sure you understand the ins and outs of everything related to it. With that in mind, we’ve rounded up six key credit-related terms that are important to know.
1. Credit Report
This is an important document that provides a look at how you’ve handled your debt and credit in the past. It’s compiled by credit bureaus (learn more with Credilife™), and it paints the picture of who you are as a credit user. Lenders will consult your credit report to decide whether or not to approve you for a loan or to decide what types of lending terms to offer you. Sometimes non-lenders, like a landlord or an employer, will also consult your report to get a sense of how financially responsible or stable you are.
A credit report will start with basic personal info, like your full name and your current and previous addresses. More importantly, it’ll show your credit history—that is, details on any loans associated with you, including credit cards you’ve opened, student or auto loans you’ve taken out, your mortgage (if you have one), and personal loans. This history includes when each account was opened, how much credit you were given, how much you still owe, and whether you paid the bills on time. It’ll also incorporate any negative marks against you, such as if you fell significantly behind on your rent, had a bill sent to a collection agency, or filed for bankruptcy.
Fortunately, the negative stuff doesn’t stay on your credit history forever. Much of it actually has to be removed after seven years, although there are some exceptions—for example, student loan defaults will appear on there longer, and bankruptcies will stick around for 10 years. The good news? In most cases, the positive stuff will stay on there for at least 10 years—and in some cases, forever.
All in all, you want to be able to show off an A+ report for many reasons. The most obvious one is that it’ll help you get a loan or line of credit when you need one (after all, if you were a lender, you’d only want to loan money to someone who was shown to be trustworthy in the past, right?). But it can also help save you some cash—if you boast a stellar history, you’ll likely score a lower interest rate than if you have a report littered with late payments.
NOTE: Your credit report does not include the following information about you: Your race, color, religion, national origin, sex, and marital status. Your age. Your salary, occupation, title, employer, date employed, or employment history.
2. Credit Bureau
A credit bureau is an organization that puts your credit report together by corralling all your past debt and loan details that are reported by other companies. (You might also hear it referred to as a consumer reporting agency—that’s just the legal term for a credit bureau.)
There are three major bureaus in America: Equifax, Experian, and TransUnion. This means you actually have three different credit reports you can look at. The info should be basically the same (i.e., if you’re generally considered in excellent standing in one, you should be in the others as well), although it’s not uncommon to have the reports differ slightly. For example, one bureau might not have received all the history that another received (not all lenders report their information to all three credit bureaus), they might display the info in different ways or one bureau could have incorrect facts.
That’s why it’s recommended to pull your credit report routinely so you can compare them and comb for any errors. You can get a free copy from each bureau once a year (so, three total) by heading to AnnualCreditReport.com, a federally approved site.
NOTE: Each bureau represents a private (not government) company. The bureaus are in the business of collecting and selling data for profit and individual companies reporting this data pay each of the bureaus for the privilege. Since a company may not choose to pay all three bureaus, they may only report to 1 or 2 which is one of the reasons data can differ across all three.
3. Credit Score
If your credit report acts like a transcript of your financial life, your credit score is sort of like your GPA. It’s a three-digit number that’s calculated using the info in your credit report and it gives lenders a quick snapshot of how healthy your credit is. The higher the score, the more creditworthy you appear to a lender (meaning, you’re less of a risk to not pay the money back).
A typical credit score ranges from 300 to 850 (with 850 being the best). There are several different types of credit scores, but the two you’re probably the most familiar with are FICO and VantageScore. If you have a good score in one you should have a good score in the other, but the different models do calculate their numbers slightly differently. Overall though, FICO is much more common, so we’ll break down below what makes up your FICO Score.
Payment history (35%). If you always pay your bills on time, you’re doing your credit score a big favor—your payment history is one of the most important factors in your FICO Score.
Still, if you’re a few days late on a payment, your credit isn’t totally shot. FICO also takes into consideration details like how late the payment was, how much you owed, how recently you missed the payment, and how many late payments you actually have. Serious derogatory marks, like bankruptcy, will hit your score harder.
Sometimes if you’re really late on a payment, a company will sell your debt to a collection agency, which now has to recover the money from you itself. On your credit report, that account will be marked as in “collection.” That can do some damage to your score, although just how much depends on a few factors, such as how much is owed. (You won’t always be notified when a bill is sent to collections, so consider this another reason to regularly check your credit report!)
Amounts owed (30%). This looks at factors such as how much you owe across your credit accounts and your credit card utilization ratio (the percentage of your total available credit you’re actually using). You want to keep your credit utilization ratio as low as possible—after all, being close to maxing out your lines of credits suggests to lenders that you’re at risk of not making future payments.
Length of your credit history (15%). This covers how long you’ve had your accounts open. Generally, a longer credit history will raise your score, since it shows lenders that you’ve been trusted with credit and paying back loans for a while.
New credit (10%). This portion takes a look at how many new credit accounts you’ve opened recently, because opening multiple accounts over a short time frame signal you may be financially unstable.
Credit mix (10%). This looks at the variety of accounts you hold. Lenders like to see that you can handle a diverse mix of accounts, such as mortgages, student loans, credit cards, etc.
Finally, how do you know what’s considered a good, bad, or so-so score? It can vary by lender, but generally speaking …
Poor is from 300 to low 500s;
Fair is in the mid-500s to mid-600s;
Good is high 600s to low 700s;
Excellent is considered mid-700s to 850.
Your score could fluctuate frequently, so it’s important to check it often. Sites like Credit Karma, Credit Sesame, and Credit.com allow you to check your credit score for free, and some credit card companies will even include it on your statements.
4. Hard Inquiry
There are two types of inquires that can be made for your credit report and score, and it’s important to understand the difference because one has an impact on your credit score and the other doesn’t.
A hard inquiry occurs any time a lender pulls your credit report because they’re evaluating your application for a loan or line of credit, like when you’re applying for a new credit card, an auto loan, or a mortgage. While it’s necessary for this to happen once in a while, a hard inquiry can potentially ding your credit score, so it’s important to keep this in mind when applying for new credit accounts. Also, as we mentioned, having a lot of hard inquiries on your report in a short amount of time may make it look like you’re desperate for credit—and desperate never looks good to future lenders.
5. Soft Inquiry
By contrast, a soft inquiry is when your report is checked by someone who’s not a potential lender. For example, if you request your own credit report or an employer runs a background check on you, that won’t negatively impact your credit score. Other types of soft inquire include checks done on your credit so that a company can market to you (like when a credit card company pre-approves you in order to offer you a new credit card) or inquiries are done by companies with whom you already have a credit account. Depending on the bureau, these soft inquires may or may not be recorded on your report, but either way, they won’t do any damage.
6. Debt-to-Income Ratio
While credit reports and scores are major, they actually aren’t the only factors lenders may take into account when you apply for a loan. Your debt-to-income (DTI) ratio, or the amount of money you owe compared with how much you earn, can also play a role.
Simply put, your DTI is the percentage of your monthly income (before taxes) that goes toward paying all your debts. For example, say your salary is $60,000 a year, or $5,000 a month. If you shell out $400 a month for your car payment and throw another $600 a month toward your student loans, your DTI is 20% ($600 + $400 = $1,000. $1,000/$5,000 = 20%).
Lenders could get spooked when they see you have a high DTI because it indicates you have a lot of debt to juggle and may have a hard time making your payments. DTIs are especially important if you’re applying for a mortgage, and generally speaking, if you have a DTI higher than 43% you may not qualify for mortgages with the best lending terms. But just like with your credit utilization ratio, you ideally want to keep your DTI as low as possible.
Extracted from an article posted 11/11/2016 by Anna Williams for LearnVe$t
