What You Need to Know About Credit Scores, Credit Reports, and Credit Freezes
Even in retirement, credit freezes, credit reports, and credit scores are still vital financial tools. These matter since they affect your ability to obtain a loan, housing, insurance, a job, etc. It's critical to understand these three tools and how they play a role in your financial life.
In this post, you'll learn:
- What is a credit score, and why is it important?
- What is a credit report?
- Ways to improve your credit score
- How to apply a credit freeze
WHAT IS A CREDIT SCORE?
There are many reasons why your credit score might be pulled. Some of the more common reasons include opening a utility account, borrowing money, getting a job, or renting an apartment.
If your finances could be trickled down to a single number, it'd be your credit score.
Your credit score is a three-digit numeric prediction and representation that rates your creditworthiness; how good you are at paying back borrowed money. It is based on information found in your credit report.
FICO score, the most common credit score type, is determined using numbers from 300 (low) to a high score of 850. While other systems exist, FICO is the most popular credit scoring system.
You credit score gives credit card companies, banks, and other users a way of determining how financially responsible you are. The higher the score, the better you look to the entities that use credit scores. A higher score is equated to a higher probability of paying bills on time, maintaining employment, and following terms of agreements.
It's important to note that your credit score slightly varies for each credit-scoring agency. And your score decreases or increases based on what actions you take in your financial life.
HOW YOUR CREDIT SCORE IS CALCULATED
There are several varying credit bureaus in the US, but only three are of great national significance: Experian, TransUnion, and Equifax.
While there can be variations in the information collected and disbursed by the three bureaus, there are five main factors used to evaluate your trustworthiness when calculating your credit score:
- Payment history: How often you pay your past credit accounts and other bills
- The total amount owed: How much credit and loans you owe to others
- Length of credit history: How long you've had credit
- New credit: How often you open new accounts
- Credit mix: How diverse your credit accounts are
And when it comes to what constitutes bad or good credit, each creditor has an individual definition. Still, credit scores are broken into various ranges indicating where a borrower generally falls on the creditworthiness spectrum.
CREDIT REPORT VS. CREDIT SCORE
You might assume that your credit report and credit score are interchangeable. While they are closely related, the two are separate terms, and it's crucial to understand the difference.
The three credit bureaus collect and analyze your financial and personal information and compile it into a credit report.
Your credit report contains information about your credit history. Your credit score is a three-digit figure based on the credit report information giving lenders an easy way to assess risks associated with lending you money.
Your credit report information is organized in various sections:
- Personal information: Your name, address, date of birth, and possibly employer
- Accounts: credit cards, loans, and other types of monthly bills. Open, closed, and collection accounts are usually separated.
- Public records: Bankruptcy records from the past seven to 10 years.
- Recent inquiries: Filings of when someone (including yourself) pulls up your credit report.
HOW TO CHECK YOUR CREDIT REPORT AND CREDIT SCORE FOR FREE
Because there are different credit bureaus, you'll have more than a single credit score and credit report. Each year, you are entitled to a free credit report from each of the three major credit-reporting agencies through www.AnnualCreditReport.com, the only government-mandated site federally authorized to give free credit reports.
Given this, experts recommend checking your credit report from a different bureau every four months. That's three free credit history reviews in a year.
The purpose of checking your credit report is to review it for errors. Even if there are errors, it might not be a case of identity theft. It is possible that the credit bureau just didn’t get it right. If there's an error, here's how to dispute information.
For a credit score, there is an ever-growing number of options to review your credit score for free. For instance, some banks and credit card companies allow you to review your credit score through their systems. Credit bureaus also sometimes offer scores for free or a small fee.
6 STRATEGIES TO IMPROVE YOUR CREDIT SCORE
Working toward an excellent credit score might be difficult with several types and credit score sources. But if your focus on the basics, it may be easy to grow your credit score without overwhelming work.
Based on the factors that impact your credit score, here are the six best ways to improve your credit score:
1. Pay your balance in full every month when possible
Most individuals falsely believe the myth that paying interest can help their credit score. This is not true.
Holding debt can affect your credit score if you have a history of high credit utilization, which is the ratio of the total debt you owe to your total debt limit subjected by the creditor.
To grow your credit score, keep your credit utilization low by paying off your debts. Your credit utilization ratio should indicate a high total debt limit and a low amount of debt owed. Aim to keep the credit utilization ratio below 30%. And in an ideal world, the target is lower than 10%.
2. Slow down on closing your credit accounts
If you can, avoid closing your credit cards, as this also closes your available credit limit and reduces your total debt limit. Using too much of your available credit hurts your credit. That's why it usually makes sense to keep your credit cards open even if you are not using them.
However, it's not wise to keep a credit card or account with an annual fee open just for credit score purposes. If your card does charge any annual fee, contact your bank to check if you can downgrade it to a no-fee version.
3. Limit applying for new accounts
While you may want to open new accounts to improve your credit score, its generally best to limit how many credit applications you submit in a short time frame. Each credit application can result in a hard inquiry which may in turn hurt your score. Opening a new account will also reduce your average age of accounts which could also hurt your credit score. While inquiries and average account age are minor scoring factors, you still want to be careful about how many credit applications you submit.
4. Keep your credit accounts active
To keep your credit accounts active, ensure you use each card at least a few times a year. You can make a small monthly transaction to ensure the account is active.
You can set up a recurring payment like an automated monthly donation or subscription for every card used less frequently to make remembering easy. That way, your card is kept active without much effort.
5. Make sure your credit report is accurate
Sometimes, creditors make reporting errors that in turn hurt your credit score. If you find a mistake, you will need to file it with the credit bureau. Reviewing your credit score is easy and free.
6. Avoid credit repair services
Keeping credit accounts open and active, reducing credit balances, and making timely debt payments are the best ways to improve your credit score.
However, using credit repair services is an option you should try to avoid. Credit repair companies often exploit a temporary strategy that only temporarily boosts your credit score. The services can also be pricey. You need to avoid temporary fixes and learn how to improve your score the right way.
WHAT IS A CREDIT FREEZE?
Are you worried about a hacker stealing your identity to open a credit account in your name, affecting your credit score? Your fears aren't baseless.
In 2021, the Federal Trade Commission (FTC) reported that there were just over 1.43 million consumer identity theft complaints, proving that this type of crime is not rare.
There are several ways to protect yourself from identity thieves. One of the ways is to freeze your credit.
A credit freeze prevents lenders and creditors from accessing your credit report and prevents you or anyone else from opening an account in your name. Without this access, lenders and creditors can't offer you any credit.
There are some benefits to a credit freeze, including:
Credit freezes act better than credit monitoring
Freezing your credit locks everyone (including you) out, thus preventing anyone from opening a credit account in your name. Credit monitoring does not do this. Monitoring simply sounds an alarm after it has already happened.
A credit freeze is preventative and one of the best measures to protect yourself against identity theft.
A credit freeze is free.
A credit freeze should not be confused with a credit lock. While both restrict creditors and lenders from accessing your credit reporting file, only a credit freeze is free from fees or other requirements.
A credit freeze is better than fraud alerts.
In cases of fraud alert, creditors must verify the identity of the person opening a new credit line. As such, a sophisticated criminal could easily bypass the safety check if they have enough information about you.
Additionally, fraud alerts are only active for a year– needing an annual renewal if you want to continue using the feature.
HOW DO YOU FREEZE YOUR CREDIT?
To successfully freeze your credit, you must contact and request credit freezes at all three major credit bureaus.
Each bureau offers a different process but be ready to share some of your personal information like your Social Security number (SSN), proof of address, birthdate, etc. You'll also need to verify yourself, which might mean providing copies of your personal documents like a bank statement or a driver's license.
You can freeze your credit online with each bureau. This is a great option since you can also easily unfreeze your account the same way. They also offer mail and telephone options.
HOW DO YOU UNFREEZE YOUR CREDIT?
To unfreeze your credit-- for example, if you want to apply for a new credit card or a mortgage loan – you'll again have to request each of the three bureaus individually. Usually, your credit report will only be accessed through one of the three agencies. Unfreezing only takes minutes.
You have two options when unfreezing your credit:
- Lift the freeze temporarily. This lets creditors check your credit file for a set length of time, then freezes it back when the scheduled period ends.
- Remove the freeze permanently. Your files remain open until you request another credit freeze.
If possible, ask the creditor which agency it pulls your credit report from, then call the specific agency to unfreeze your report for everyone temporarily (global lift) or only for the creditor inquiring about the report.
Understanding your credit score is crucial to your financial life. Similarly, protecting that credit score through steps like a credit freeze is a wise financial strategy. Even if you're retired, it's in your best interest to keep your credit strong as it affects things like your potential to borrow and the interest rates you're offered. Without an ideal score, it may signal to lenders that you risky to lend to, especially if you no longer work and can't provide proof of income for loan repayment.
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