If you are like most consumers, you don't spend a lot of time thinking about your credit history. You may think that, as long as you're paying your bills on time, your credit history and related credit score should be shiny and clean. However, many common money habits can have a detrimental effect on your credit score without you even knowing it. Keeping these money mistakes to a minimum will help keep your score high.
A popular financial planning tool used by banks and personal advisors is to take some or all of your old debt and roll it into a new consolidation loan. The main goals of this strategy are to refinance debt to a lower interest rate, and to lower the total monthly minimum payment. While both of these results can help your overall financial picture, getting rid of older debt can hurt your credit score. A portion of the score is determined by the length of your credit history, and open debt accounts that have a long track record of on-time payments will boost your score. Closing all of them and rolling them into a brand new loan can drop the score significantly, especially if it reduces your overall available credit. If reducing the interest rate you pay on loans and credit cards is the goal, try to negotiate a lower rate with your existing lenders before choosing consolidation.
Everyone wants to get the best rate possible on mortgages, car loans and credit cards. It is a solid financial strategy. However, financial institutions considering lending you money almost always run a credit check to ensure that you are a good risk. Multiple access requests on your credit file in a short period of time can drop your score. In the eyes of the credit score developers, this activity can indicate that you are scrambling to obtain new credit and raises a red flag on your report. Since 2009, the score has been adjusted to take this type of activity into account, but it can still have an effect. To minimize these so-called "hard hits" on your credit report, have preliminary discussions with lenders without consenting to a credit inquiry. That way, you can make a final decision with a single lender, which will run a single credit inquiry before finalizing the loan. Run a copy of your own credit score (which doesn't result in a hard hit) and provide it to lenders so that they can make an informed preliminary decision based on your credit history.
Refusing to Pay
At some point in your life, you are likely to enter into a dispute with a vendor or creditor. It may be that cool new blender you bought online that broke as soon as you got it home, or outstanding finance charges that you don't think you should pay. Unfortunately, most vendors have a big stick when it comes to coercing you to pay. They can threaten to submit the outstanding amount as a collection item on your credit report, thereby dropping your score. There are processes in place with all three major credit bureaus to handle such disputes, but the collection will stay on your report in the interim. If the bureau receives enough proof from the vendor that you do owe the amount, it will remain on your report for a full seven years. Try to work out payment disputes in a timely manner to avoid this situation. It may take repeated letters or phone calls to senior people in the vendor's organization, but it is worth the time and trouble.
Closing Credit Cards
It may seem like the best way to sensibly manage your financial situation is to close out credit cards that you're not using. A portion of your credit score, however, is determined by the amount of revolving debt you have (such as credit cards and lines of credit) versus the total amount available to you. The lower the ratio is, the more positive impact it has on your score. It shows that you have access to credit and aren't using it indiscriminately. If you close down some of that available room, the ratio goes up and your score goes down. This is especially true when you close a credit card that has a balance. The balance will remain on your report and the available room disappears. Spread out your credit card usage among all of your cards and be sure to make payments on time to keep your score high.
The Bottom Line
Your financial habits can have a significant effect on your credit score, and you should consider the impact before making large changes to your debt structure. Run a copy of your credit report at least annually so that you can analyze the effect of your money moves on your score.
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