Debunking 8 Common Credit Score Myths

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Credit: Like it or loathe it, most of us need it to survive. And the kind of credit we have access to is dependent on our credit scores. A mortgage, a car payment, credit cards, and even health care financing all impact and depend on our credit score.

The problem is, there's a lot of misinformation out there, and if you believe it, you could be doing yourself a disservice. Here are the top myths about credit scores that we have debunked for you.

1. Closing a lot of credit accounts will improve your score

It seems logical, but it's completely incorrect. Credit scores are calculated in part by something called a debt-to-credit, or credit utilization, ratio. The agencies calculating your score are looking at how much debt you have, and how much available credit you can tap into.

So, if you have 10 credit cards with a combined credit availability of $100,000, and you've only used $15,000 of that available credit, your credit utilization ratio is 15 percent. This is considered good: You have 85 percent of your credit unused.

Now, let's say you close seven accounts, because you just aren't using them. You still have $15,000 in debt, but now your overall available credit drops to $30,000. Your credit utilization ratio just skyrocketed to 50 percent, and that means your credit score takes a dive.

Do not close credit card accounts like this. Simply put the cards you aren't using somewhere safe. And if you get the chance to increase your credit limit, do it. As long as you don't plan to max it out, it will help your credit score. (See also: Stop! Don't Cut Up Your Credit Cards)

2. The amount of money you make has an impact on your score

Your credit score lists credit accounts, not income from employers. So, whether you're a CEO making $3 million a year, or an entry-level worker earning $30,000 a year, income is not a factor in determining your credit score. In fact, a rich CEO might actually have a terrible credit score, despite the money, because of a bankruptcy or series of late payments in the past.

The only way income can have an impact on your credit score is if you live a Champagne lifestyle on a beer budget. If you are maxing out your cards, making minimum payments, and missing payments altogether, you will see your score take a big hit.

3. Credit scores change just a few times a year

Credit scores are changing all the time. The information used to calculate your score comes from the financial institutions you do business with. If you miss a payment, that will be reflected pretty quickly. If you close several accounts, that information will impact your score a lot sooner than in three to six months.

In fact, if you look at your credit score right now, you will see when the last updates were made. Sometimes, it will be a matter of hours, rather than days or weeks. For this reason alone, you should be checking your credit score on a regular basis. When something negative happens, you can jump on that issue quickly and get it resolved.

4. A bad credit score makes it impossible to get credit or loans

This is a myth that comes from years of advertising messaging about needing a good credit score to get financing. Actually, most people can get financing, whether their score is up in the 800s or down in the 400s.

A credit score represents a level of risk to financial institutions, and this will dictate the terms of any loan or credit your receive. For example, someone with a credit score of 800 is considered very low risk to the financial institution. They know this person pays on time, has a lot of available credit, and has longevity with his or her accounts. This will result in a low interest rate, and more available credit.

Someone with a 450 credit score, on the other hand, is considered a very high risk client. Loans and credit offers will be available, but they will have oppressive interest rates for very little credit.

5. Checking your credit report damages your score

This is rooted in truth. A "hard inquiry" on your credit will have an impact on your score, albeit a small and temporary one. This happens when you apply for a loan, credit card, or other form of financial assistance. The hard inquiry dings your credit a little because if you do it a lot, say applying for 10–12 new accounts every month, you could be setting yourself up for some financial ruin down the line.

However, if you, yourself, are examining your credit report, that is considered a "soft inquiry." It will not have any impact on your score, and you can do it daily, or even hourly, without any consequences. (See also: How Credit Inquiries Affect Your Credit Score)

6. If you don't have credit, you'll have a great credit report

Not in the U.S. In some countries, a lack of credit is considered a good thing. If you've never had a credit card or a car loan, you must be financially responsible. But in the U.S., you don't get a good credit score unless you have a good history with credit.

The fact is, credit scores are built. Financial institutions want to know that you will borrow money and pay it back on time, with interest. If they can see you have done that well, and often, you are not a risk. If you have never had any kind of loan or credit card, you represent an unknown quantity. And unknown quantities do not sit well with people putting a stamp of approval on a credit line. (See also: How to Use Credit Cards to Improve Your Credit Score)

7. Carrying a balance on your credit card helps your score

No, it doesn't. To be fair, it doesn't hurt it either. But if you are under the impression that keeping money on your card is helping your score, you are not doing yourself any favors. Ideally, you want to pay off the balances on your cards in full every month, to avoid paying interest on purchases. If you are only paying the minimum, you are basically throwing money into the trash. Most of that minimum payment is going to the credit card company; very little pays down the balance.

Whenever possible, don't carry a balance. And if your balance is more than 30 percent of the card, consider transferring half to another card. When you are using more than a third of the credit on one card, you can actually hurt your score. Ideally, your balance will be below 30 percent of the available credit — the lower, the better. This is a good time to request a credit line increase. If you get your line increased a few thousand dollars, so that your balance drops below 30 percent, that can increase your score. (See also: 4 Questions to Ask Before Getting a Credit Increase)

8. A bad credit score will stay with you for life

If you are currently looking at a poor score, it's not the end of the world. You won't be paying exorbitant interest rates forever. However, it does take time to rebuild it.

The score will change, for the better, if you open new lines of credit and pay your credit card bills on time. Never miss a payment. Keep your balances low. Maintain a very low credit utilization ratio. Try not to apply for too many cards or accounts in one year. If you continue to be a model credit citizen, even after financial difficulty, your score will rise.

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