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An important step to reaching financial independence is to understand your credit score rating. How do you discover credit score? What is an average credit score?
Let’s address why your credit score rating is important.
Anyone living in the US is highly dependent on their credit score rating to:
- Borrow money for a mortgage, auto loan, and credit cards
- Credit score ratings can affect your insurance premiums (in certain states)
- Employers can check your credit score rating
- Landlords check potential tenants’ credit scores
- Cable and internet providers pull your credit report
- Borrow money to invest like real estate
People who have an average credit score will end up paying tens of thousands less in interest than someone with a bad credit score rating.
According to Equifax — If you can get a rate of 4.29 percent on a $200,000 mortgage, your total interest paid will be $155,884. But if you have a lower credit score and only qualify for a rate of 5.5 percent, you will instead pay $208,808 in interest over the life of the loan, or nearly $53,000 more. On top of that, you will also have a higher monthly payment.
Most people drive a car to get around but many of us don’t have enough cash on hand to purchase a car outright. Instead, we take out auto loans.
Someone who takes out a $30,000 car loan can pay up to $5,000 more if they have a bad credit score rating than someone who has excellent credit.
To add insult to injury, your bad credit can cost you more with higher insurance premiums.
Do you have plans to open a business and plan on expanding an existing one?
You will need money for that.
Having a great credit score rating increases your chances of obtaining business loans but also keeping your interest rates low. Leveraging other people’s money to build wealth is my favorite part of having great credit. It’s why we bought our first rental property. Borrow money, have a third party pay the loan down while you build equity.
Finally, we all need a place to live. Most landlords only rent to people who meet a minimum credit score rating.
Understand your credit score
How is your credit score rating determined?
35% – Payment History
30% – Total amount of debt to credit ratio
15% – Credit Length
10% – New Credit
10% – Types of Credit
How Does Your Credit Score Rating Stack Up?
725-759 Very Good
560-659 Not Good
How to maintain and improve your credit score rating:
- Pay your bills on time
Payment history makes up 35% of how your credit score rating is determined. That makes it the most important factor for your credit score. Pay your credit card, mortgage, auto loan, etc bills on time. Late payments raise the alarm bell on you because you get flagged for being a higher risk. Late payments cause — late fees, increased interest rates, lowering your credit score, documented on your credit report (for seven years).
The simplest way to make sure you don’t miss a payment is to set up auto-payments. It takes a few minutes to set up but totally worth time investment.
- Don’t max out your credit cards
How much debt-to-credit you carry comes in at a close second by making up 30% of your credit score rating. Steer clear of your credit limit. Carry a low debt-to-credit ratio as much as possible. Otherwise, being close to maxing out your credit will drive down your scores.
MyFico suggests that a good debt-to-credit ratio should be 30% or lower. To calculate your debt-to-credit ratio, simply divide how much you owe by the total amount of credit you have on your loans and credit cards.
For example — Owing $100 on a credit card that allows up to a $1000 limit means that your debt-to-credit ratio is 10%
Tip — Don’t ever cancel credit cards after you pay them off because this increases your debt-to-credit ratio. Canceling a credit card lowers the total amount of credit (of your debt-to-credit ratio) you have. Cut them up after you pay them off and never use them again.
- Start early
Start building your credit early in your adult life — as long as you feel you have enough impulse control! The longer you have a clean credit report, the more credit lenders will be willing to extend money to you.
Check your credit score rating at myfico here