most common credit score myths debunked
Most Common Credit Score Myths Debunked
In the United States, there are numerous myths and fallacies about credit scores. Many people wrongly assume that age, wealth, race, etc., play a role in determining the credit score of an individual. In this article on Buzzle, we will debunk some of the most common myths associated with credit scores.
Apart from being an important parameter in loan applications, credit scores are being increasingly used by employers as a background check on prospective employees.
Credit score is an important number for a majority of Americans, as it plays an important role in the financial health of an individual. Individuals with high credit scores are given better deals as compared to those with a moderate or below par credit score.
Although there are numerous agencies that claim to prepare authentic and accurate credit reports, most lenders trust the information provided by Fair Isaac Corporation's FICO Credit Rating Scale, and Vantage Credit Rating Scale. Fair Isaac Corporation's FICO Credit Rating Scale calculates the score of a person based on their credit report, and this number is known as FICO score. According to estimates, around 90% of creditors look at an individual's FICO score while reviewing a loan application. FICO credit scores range between 300 and 850, with 670 to 750 being considered a good score. Another score that the creditors look at is the VantageScore, a credit score prepared by a consortium of major credit rating agencies - Equifax, Experian, and TransUnion. VantageScore ranges between 500 to 990, with a score of 800 to 899 being considered a good score.
Despite being such an important financial parameter, there is a pervasive ignorance about credit scores. Most of the confusion is related to the factors that the credit bureaus use to prepare a credit report. In the following paragraphs, we will try to clear some air on the common myths associated with credit scores.
Myth #1. People with higher income have higher credit scores.
Fact: Credit score is an indicative number related to the credit history of an individual. It is based upon various factors such as repayment history, current debts, duration of a loan, etc. A wealthy person who has a history of defaulting on his payments may have a lower credit score than an individual with meager income, but an impeccable payment history. Therefore, it is important to remember that the credit score doesn't take into account the wealthiness of a person, but his record of paying his dues properly on time.
Myth #2. Checking your credit report severely impacts your credit score.
Fact: There are two types of credit report checks or inquiries - hard check and soft check. A hard check takes place when a lender checks your credit report to judge whether or not he should approve your loan application. A hard check does lower your credit score considerably. However, when you yourself check your credit report, i.e. do a soft check, your score does not decrease drastically. In fact, most experts advise people to check their credit reports frequently so as to avoid any discrepancies and possible frauds.
Myth #3. Closing a credit card after paying the debt will improve credit score.
Fact: It has been reported that a majority of people default on their credit card payments, and this has a profound effect on their credit score. People think that by paying off the debt on their credit card and closing it once and for all will improve their credit score. However, the fact is that, one of the factors credit rating agencies look at while preparing a credit report is the amount of credit available to an individual. More the available credit, better the score. So if you have paid off all the debts on your credit card(s), a wise decision would be to destroy the card(s) while keeping the account(s) open, so that it helps in building your credit score. Closing your credit card will have no effect on your available credit, therefore, it will be inconsequential in improving your credit score.
Myth #4. Taking the help of a credit counselor will lower your credit score.
Fact: Getting a reputed, credit counseling agency to help you out with your finances isn't looked at negatively by credit rating bureaus. However, when you enter into a settlement with your creditors on the balance that you owe to them, it is up to their discretion whether or not they report it further.
Myth #5. Once you get a poor credit score, it is impossible to get a loan.
Fact: Credit score is just one of the parameters that lenders look at while reviewing the loan application of an individual. Lenders look at other factors too, such as annual income, age, job history, debt load, etc., while considering a loan application. Although the credit score plays a very important role in credit requests, it may be still possible for an individual to get a loan with a relatively lower credit score. Also, credit scores change positively or negatively with time, depending on how well a person manages his debts. If you have been handling your finances in an efficient manner for a long time, there is a high possibility that it will reflect positively in your credit score.
Myth #6. Minorities are often 'given' poor credit scores.
Fact: This is a rumor that has been doing the rounds on the Internet, especially on poorly-moderated forums and message boards. As mentioned before, credit score is a statistical figure that is indicative of the credit history of an individual. A credit report doesn't take into account the race or ethnicity of an individual. Therefore, there is no reason to believe that minorities are unfairly targeted by credit rating agencies.
Myth #7. People who pay their utility bills on time have good credit scores.
Fact: Sadly, paying your utility bills on time has little or no effect on your credit score. Reason - your cable or gas company do not offer you credit. You simply use their services and pay them for what you have used. On the other hand, if you do not pay your bills on time, these companies can report your case to the credit bureaus, leading to a decrease in your score.
Myth #8. You can improve your credit score immediately by settling old debts.
Fact: Paying off old debts is definitely a step in the right direction, but one should not expect it to work wonders overnight. In fact, it has been reported that even after paying off old debts completely, it takes around seven years to get it off your report. In case of bankruptcies, the period is around ten years.
Myth #9. The best way to improve your credit score is to pay with cash.
Fact: Financial planners around the world advise people to limit their usage of credit cards. This is an important step towards sound financial management, because while using a credit card, one impulsive purchase can quickly develop into a bad debt. However, as far as credit reports and credit scores are concerned, buying on cash has absolutely no effect at all. When credit bureaus prepare your credit report, they look at your history of dealing or managing a debt; cash transactions are not reported to them. Therefore, using cash will not improve your credit score in any way.
Myth #10. Shopping around for loans and negotiating the interest rates immediately lower your credit score.
Fact: One should definitely look around for the best deal before taking a loan. It definitely would not hurt your credit score as long as your inquires occur within 30 to 45 days of each other, as the credit bureaus look at it as a 'single request'. However, it is important to remember that this rule applies to mortgage, automobile, and student loans only. Shopping around for a credit card offer may lower your credit score slightly.
These were some of the common fallacies associated with credit scores. While we agree with the fact that understanding how credit scores work, and the factors that influence them may seem tedious, but at the end of the day, we have to remember that as a statistical number of our entire credit history, credit scores are too important to be ignored.