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6 Ways that you can hurt your credit rating
The credit bureaus keep their scoring models confidential, but through the years, a few hints have been revealed as to what will affect your credit scores. Everybody knows that a late payment will hurt their credit rating, but these computers calculate many other things into your score, too. .
As more and more borrowers have found themselves landing just below the border of one of the credit grades and have had to pay a higher rate on their mortgage, public pressure is mounting for the Credit Bureaus to be more transparent. This is unlikely to happen anytime soon, but the following list of items all will hurt your credit scores.
Most Lower Credit Scores come from one of these Areas
- Not paying bills on time
- Taking on New Debt
- Having too much or not enough Available Credit
- Having too many People Check Your Credit
- Inaccuracies on the Credit Report
- Replacement of Loans or Credit Cards with another Debt
The Areas that will Damage a Credit Score
Let's cover each of these issues and give you scenarios of what I have seen in the past. None of this is written in stone because the credit bureaus won't reveal the true formula they use, but these scenarios might help to explain a situation you have found yourself in.
Not Paying Bills On Time
The number one killer of credit scores is not paying bills on time.
If you find yourself short on money and are forced to make a choice on which bills to pay a late payment on a mortgage will count the most against you, next is a late payment on an installment loan (e.g. a car payment) and finally a late payment on a credit card.
One myth to clear up here is that a Late Fee does not necessarily mean a late payment on the credit report. Most companies will not report you to the credit bureau as late until you are full month late. Of course, there are some companies that will report you for one day late, but they are few.
Another note here is that if you have had an account for a long time, a call to the credit card company to say that you are having a little trouble and will get caught up often makes the difference. Many companies will not report you to the bureau if you call them before the payment is charged a late fee.
You will still pay that fee, but might avoid the mark on the credit report.
Taking on New Debt
This is surely the most misunderstood reason for lower scores and is definitely the easiest way to knock the scores down.
This can come from taking a new car loan, signing up for a new credit card, refinancing your mortgage. Any NEW account is a big red flag to the credit bureaus, regardless of the reason.
Every one of these items will lower your scores for a time, but the scores will come back up as you make payments on the new debt. The larger the purchase, the lower the scores will drop for that temporary time. A $100,000 mortgage will lower scores more than a $25,000 car which will lower scores more than a $2000 credit card.
There is no set figure as to how far scores will drop for new accounts, but it does seem to have an effect as to how much the new debt is in relation to the total debt a person has. In other words, for a borrower who has no mortgage and $5,000 in credit cards, taking out a $25,000 car loan appears to a computer as if this person has just increased their debt from 5,000 to 30,000 and multiplied their debt 6 times!
At the same time, a person who has a $200,000 mortgage, another $10,000 car loan and $15,000 in other debt and takes out a $25,000 car loan will have only increased their debt from $225,000 to $250,000. To the computer this is only a 10% increase in the debt load and will not count against the borrower on scores near as much.
A borrower who has increased their debt by 6 times as in the first example will often find themselves with scores that put them out of the perfect borrower loans. Just imagine when they take out a new mortgage for $180,000. This is essentially increasing the debt another six times. This borrower will have a tough time getting more credit for the next few months.
Having too much or not enough available Credit
OK, so you're thinking how can both too much and not enough both hurt my scores!
Well, this is really talking about your credit card accounts and how much the credit limits are and how much the monthly balances are. Not Enough is definitely a bigger issue that Too Much, but both deserve a discussion.
Regardless, the Credit Bureaus determine scores based on the monthly balance, NOT on whether you pay that off each month. They can't tell the difference of whether you made a small payment or if you paid it off and then filled it up again.
Not Enough
If you are going to get a mortgage a good practice is not to let that monthly balance go above 50% of the available credit and definitely not above 75%. If you are paying down debt to get qualified, you will have better scores if you have two accounts less than 50% and one at 70% instead of three accounts at 55% of the available credit.
Here is an example of what I am speaking of. Let's say Joe Borrower has 3 credit cards with credit limits of $5,000, $1,000 and $1,000 and those 3 accounts have balances of $4,000, $800 and $800 and he wants to get the balances down to get better credit scores. Now let's say that Joe has an extra $1,000 to put toward the cards. Rather than putting the whole $1,000 toward the big balance he would be better off to bring the two small account down to less than 50%. In other words pay the two small accounts down to $450 each and then put the rest to the big balance.
Too Much
Too much is when you have say $10,000 in credit limits but are using up none of the credit limits. You are probably thinking scores should be great because there are no balances. While this is true and scores will be higher if you have been paying the accounts on time every month, there is also a downside.
Again, the credit bureaus do not reveal the actual formula, but the highest scores seem to come from those with between zero and 20% of the available credit used.
The Credit Bureau computers actually seem to count that $10,000 against you because you could have a "moment" and go out and use it all up tomorrow.
This seems sort of stupid, I agree. However, I have seen many borrowers who are using $2000 of the $10,000 with higher scores than the ones who have the zero balances.
Now, anything above about 20% seems to have the effect of the scores going lower.
Having too many people check your Credit
These are called "inquiries" on your credit report and the credit bureaus keep track of all the companies who make a check on your credit, whether you actually open an account with them or not.
When there are a number of inquiries, the computer seems to take this as a sign of you being on the verge of going on a spending spree and lowers your scores, temporarily, to "help you control yourself" and not spend too much.
Most commonly this can occur when you shop for cars or perhaps home improvements. If you checked 4 dealers for a car and they all checked your credit, it appears as if you looking to buy 4 new cars!
Now, most mortgage lenders will accept an explanation of what you were doing, especially I you got one of the cars and they all understand that people shop for the best deal. If there are 10 or more of these inquiries, you can fully expect to have to answer some questions about what you are doing and may have to write a letter of explanation before getting the approval for your mortgage.
The unfortunate result though can be lower credit scores that change the rules on the type of mortgage available. The mortgage lenders will NOT pretend that your scores are higher because you had your credit checked too many times.
Only the inquiries in the last 90 days lower your credit scores. In other words, stop looking to buy things for that 3 months before you apply for your mortgage. Or at least don't let anyone check your credit while you are looking!
Inaccuracies on your Credit Report
Inacccuracies on the credit report can put you in a real spot if you are in a hurry to get your mortgage closed.
Correcting these mistakes with the credit bureau and the company that is reporting this takes time and there is not much you can do to speed up the process.
The best advice I can give on this is to remember that in most cases the person you will be speaking to did not create the error, so remember not to get upset with them! These people hear about errors all day long and I can guarantee that the people who treat them with respect will get their errors cleared up much more quickly than those who yell and scream.
Of course this is a stressful situation for you. If it is an error, It will be corrected.
Replacing One Loan with Another Loan
Another score dropper here is when you replace one loan or credit card with another. The computer see this as new debt, not a replacement.
Remember that the computer program that is looking at coming up with a score for you is only looking at numbers on a piece of paper, they only see that more debt was taken out and do NOT see that one payment was replaced with a lower one.
Especially damaging can be during the time of the replacement because both balances show up on the credit report. The new account shows up immediately and the old account takes a month or two to show up as paid off. In fact, from what I have been able to tell, this delay and the appearance of the double account balances is a main reason for the temporary lower scores. The Scores come back up after the old account gets paid off, but while they drop in an instant when that new balance showed up, the scores only go back up slowly.
If you find yourself in this situation, this is probably not the answer you were looking for, but it is definitely the way these credit scores work.
Try to look at it this way. The concept of lower credit scores from the "credit community" is to keep borrowers from getting themselves into trouble and not open up too many accounts at a time. Therefore, when you buy a car or refinance your home the scores go down so that you cannot go out and borrow more money right away.
This is to save both the borrower and the company extending credit to you so that someone can not buy a car, a home, a boat and open up 9 new credit cards all at once and run off with all the money. By taking the scores down with each new account, the credit community is protecting themselves from this occurrence and protecting the borrower by making them wait a while to have the scores go back up before making that next big purchase.
For People with Scores Just Below that Qualifying Score
I have added these notes because quite a few borrowers reading this article have already applied for a mortgage and find themselves in a spot.
There is just plain nothing worse than hearing that your credit scores are too low when you are applying for a mortgage. Sometimes nothing can be done and you have to take an alternate path to complete the mortgage, but many times, these lower scores are only temporary and fixing the issue is just a matter of time.
Don't take a mortgage with a higher payment that will last for years if waiting a month or two will result in your scores going higher. Paying everything on time, not flipping those balances to a new card and not having people check your credit time and again can really make those scores go higher quite quickly. If the difference in qualifying for a loan is just a few points, this really is your best idea!
If you are buying a home and really have no choice because you have to close this month, you're just going to have to bite the bullet and take a higher rate or different program, but there is a way to do this that is not quite as expensive long term.
For a borrower in this situation, a good plan is to take a short term, no cost mortgage. Perhaps a 1 year ARM or even an Option ARM and then paying the costs for a fixed rate mortgage and refinance in 6 months or a year.
Oh sure, you will have to pay more for the current mortgage in terms of interest rate, but doesn't it make sense to pay that extra $20 or even $50 a month for 6 months instead of doing it for the next 30 years?
By doing a no-cost loan for the purchase of the home, you let the bank pay the costs and you only have to pay once for the mortgage, when you refinance. If you find yourself in this situation, consider this choice and of course, come to me for the refinance since this is where you came up with the idea!
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Harry
Smith
email Harry@dailyinterest.com or reach me by phone Office 1-248-548-7655 Cell 1-248-514-9000 |
Drew
Smith
email drew@dailyinterest.com or reach me by phone Office 1-248-548-7655 Cell 1-248-703-7770 |
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