Improving Credit Scores

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Regardless of your current credit score - good or bad - it never hurts to take steps towards improving that score. We're going to run though some basic tips for improving credit scores. But first were going to briefly explain how those scores are calculated, because that understanding will allow you to better appreciate our recommendations on how to improve your credit score.

Credit Scores and Credit Scoring

Credit reporting agencies are responsible for calculating credit scores. While each credit rating agency might use a slightly different approach, and have different partners that are used to gather credit data, the most commonly referred to score by lenders is your FICO® score developed by Fair Isaac Corporation.

Five Components of a Credit Score

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One of the ways that credit reporting agencies make money is by selling credit scores to lenders and creditors. Those scores are calculated by the credit rating agency based on information they gather from a variety of sources. These sources of information, or partners, can include credit card companies, utilities, and other lending institutions.

These partners share your payment history and credit information with the agency and this allows them to calculate your FICO score, which contains five components or parts:

Payment History (35% of credit score) - Are you paying on time? Late payment patterns and bankruptcies can hurt your payment history, while on-time payments help your score.
Outstanding Debt (30% of credit score) - How much do you owe all creditors and lenders? Are you using all of the credit limits available to you? Do you have a lot of outstanding loans?
Overall Credit History (15% of credit score) - How long have you been borrowing money from lenders?
New Credit (10% of credit score) - Have you applied for new credit recently? Are you currently seeking many new loans or just a single loan?
Other Factors (10% of credit score) - Do you have a mix of credit such as credit cards, installment loans, mortgages and car loans?

As mentioned earlier, knowing what goes into calculating your credit score can help you create a plan for improving your credit score. So now that we know what goes into that score, let's talk about some of the ways to improve it.

Best Ways to Improve Credit Scores

We're going to start this section with a tip about the single best thing you can do to improve your credit score - borrow money and pay back the lender on time. One of the biggest mistakes some people make is thinking that should not borrow money until they really need it. That's simply not true. As you saw earlier, one of the components of your credit score is payment history. If you don't borrow money and pay it back, then a creditor will never know if you can really pay back money when you really need to borrow money - such as the case when you buy a home and need a mortgage.

With that in mind, let's run down each of the components of your credit score and talk about some of the best ways to go about improving, maintaining and creating a good credit score:

Payment History - Borrow money and pay it back on time. This includes school loans, car loans, personal loans and payments due on credit cards. Pay your utility bills on time and try not to carry a balance on your credit cards. If you're carrying a balance on a credit card, be sure to make your minimum payments each month on time.
Outstanding Debt - Although borrowing money and paying it back on time helps your credit score, make sure you don't over extend yourself. If your credit card balances are starting to build over time, this might be interpreted as an inability to meet future debt obligations and be seen as a negative when figuring out your credit score.
Overall Credit History - We mentioned this earlier: The longer you've been paying back loans, the better. Whether it's a gasoline card, retail store card or a credit card, don't be afraid to open an account. You need to demonstrate to creditors that you can be trusted to pay back the money you owe, and that often means starting small.
New Credit - Credit agencies like a slow and steady approach when it comes to applying for credit. If you run out and apply for ten different credit cards at the same time, then this is going to hurt your credit rating. Again, you have to prove yourself first before creditors will trust you with larger loans at preferred / lower interest rates.
Other Factors- Credit agencies like to see that you can be trusted to make timely payments for a variety of loans. Again, this simply gives them more information about your ability to pay back loans and will add to the confidence of their score.

So the best way to improve your score can be summed up in this simple statement: Borrow money and pay it all back on time. But what if you've already got a "bad" score and need to improve it in a hurry?

Besides the practices mentioned above, there is only one other way to improve your score, but let's first talk about ways you cannot improve your credit score.

Ways You Cannot Improve a Credit Score

If you understand the way your FICO score is calculated, then it should be immediately apparent to you that any promise to improve your score that does not address the components above may be illegal. Be wary of offers to improve your credit score "overnight." It is simply not possible, and if an offer sounds too good to be true, then it probably is.

If you've had a run of bad luck or you've somehow damaged your credit score, the best thing you can do is start rebuilding your credit history by following the steps outlined above. There is not much more you can do if you've ignored your monthly bills or are chronically late in paying back your creditors. But if you've been paying your bills on time and your credit score seems lower than it should be - a good score is 700 or higher - then maybe you've got an error on your credit report and that needs to be addressed immediately.

Errors in Credit Reports

Anytime you're denied credit, you can request a free copy of your credit report and you should obtain a copy if you think you've been wrongfully denied. Nobody's perfect and that includes credit reporting agencies. They are moving a lot of information around every day and street addresses, names and account numbers can get mixed up from time to time.

Even worse, sometimes life events like getting married, changing your name, or even getting divorced can result in credit card disputes, errors and incorrect information being applied to your account. For example, after a divorce one person might own a credit card that continues to show up on their ex-husband's or ex-wife's credit report.

Other than re-establishing your credit score by paying your future bills on time, correcting errors is the one thing you can do to have an almost immediate and significant impact on your score. If you do find an error on your credit report, there is a six step process that was fully described in the Fair Credit Reporting Act. The process includes sending documentation to the creditor and credit reporting agency to have the error corrected.

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