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5 Myths and Facts about Your Credit Score

Sort Through the Hype and Maximize Your Number

-- By Caitlin Boyle, SparkSavings Contributor

My husband narrowed his eyes. "Don't let this place run a credit check on us just so you can open yet another store credit card," he warned. "I've heard checking your credit too often and opening too many cards can drop your score."

"That's not true! Credit checks have zero impact on your score," I protested, thinking of the lovely 10% discount I'd get if we were approved. I placed my hands on my hips in frustration and shot back, "Google it on your iPhone!"

Credit scores are often a nerve-wracking mystery for most of us. We know that they're important, that a high score is good, and that a low score is bad. But that's where most people's understanding of credit scores ends. As a result, urban legends about your score abound. By educating yourself on how scores are determined, you can take proactive steps to increase your score. Find out what I learned when I consulted with the experts!

Myth #1: The Credit Card Companies Set Your Score

The reality is that your score--a number between 300 and 850--is determined by a system created by the Fair Issac Corporation (FICO). A score between 760-850 is considered "Best," and a lower score can impact loan rates, automobile insurance, and even employment opportunities.

Every bank and lender you do business with reports data back to three major credit bureaus, which uses the FICO system to determine your score. The FICO system emphasizes paying your bills on time and the total balance on your credit cards and other loans in comparison to your overall credit limit. To a lesser degree, the length of your credit history, newer accounts and applications for increased credit, and the number of credit cards and loans you hold impact your score.

Myth #2: Canceling Credit Cards You Don't Need Will Increase Your Score

Canceling cards you've had for a long time can have a negative impact on your credit in two ways: First of all, it eliminates a source of credit in your name and will increase your debt to credit ratio, which determines 30% of your FICO score. Furthermore, it eliminates valuable data, and 15% of your FICO score is determined by the length of your credit history. As a result, many financial advisers would recommend that you destroy unneeded cards--but don't cancel the account.

Myth #3: Asking for Credit Limit Increases Hurts Your Score

A common misconception is that asking for your credit limit to be increased is bad for your score; however, if you receive a credit increase and do not increase your debt, your credit score will go up! Why? Per the explanation for in Myth #2, your debt-to-credit ratio determines 30% of your score. If you owe $1,500 on a card with a $2,000 limit, your debt-to-credit ratio is 0.75. If you ask for a limit increase to $4,000, your new ratio is 0.375, and your credit score will increase. The key, of course, is not to increase your debt just because you have more credit.

Myth #4: Checking Your Credit Hurts Your Score

The FICO system can interpret inquires into your credit history as a desire to take on more debt, which may have a negative impact on your credit score over time. However, FICO also realizes that many consumers seeking the best terms for a loan will have their credit checked by multiple lenders. For example, you might approach five different lenders for a student loan, but you're only interested in taking out one loan--not five. FICO understands this and views multiple inquires into your score as one single inquiry if all requests occur within a two-week time frame. It's perfectly acceptable to shop around for the rates; just do it within 14 days.

This grace period, however, does not apply to credit card inquiries. Furthermore, it never hurts your credit score to check it yourself.

Myth #5: You Only Need to Check Your FICO Score at One Credit Bureau

There are three credit bureaus: Equifax, TransUnion, and Experian. Each uses the FICO system; however, you'll probably have slightly different scores at each bureau because the bureaus don't all share the same data. For example, Equifax may list more of your accounts than TransUnion or Experian, and the will be reflected in your FICO score from each bureau.

Many lenders will pull scores from all three bureaus and use the middle score. That's why it's important to get your credit score checked at Equifax, TransUnion, and Experian. Visit this page from the Federal Trade Commission on how to get your scores for free. Search the scores carefully and fix any errors before applying for a loan. The FTC provides more information on fixing errors on credit reports on this site.

Sources:

Federal Trade Commission consumer information

"The Money Book for the Young, Fabulous & Broke" by Suze Orman

8 credit score myths

 

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Caitlin Boyle Caitlin Boyle
Caitlin Boyle writes a daily food and fitness blog, Healthy Tipping Point, which chronicles how Caitlin balances her busy lifestyle with healthy eating and exercise. She also runs Operation Beautiful, a blog that encourages women and men to replace positive notes in public places to encourage self-esteem and develop a positive body image. She is also the author of the book based on Operation Beautiful.