What are credit scores and how are they important?

A credit score is a number that shows how likely you are to pay or default on credit. It ranges from 300 to 850; the higher the number, the more creditworthy lenders deem you. Your credit history determines your credit score. In turn, your credit score affects various aspects of your financial life. Read on to find out more.

Why Are Credit Scores Important?

Good credit scores give you access to favorable deals on credit cards, loans, housing, insurance premiums, and more. In contrast, a bad score results in you paying more for these products. Higher interest rates and other costs related to bad credit scores add up over the years. Credit scores play an essential role in your financial life. So, you need to monitor it and take actions to maintain, improve and leverage your scores.

How Credit Scores Work

Most people have multiple credit scores, and these numbers change from time to time. Your scores depend on the scoring formula and the credit reference bureau that supplies the information entered into the formulas. The most effective way to track your credit score progress is by selecting one bureau and monitoring one of their credit scores. Note that your bank or credit card issuer may provide your FICO score for free.

How to Improve Credit Scores

Many people haven’t used credit recently, or they have no history at all of using credit; as a result, they have no credit scores. If you’re one such person, you can build credit by applying for a credit-builder loan or a secured credit card.

A credit-builder loan deposits the amount you borrow into a savings account or certificate of deposit; after 12 monthly payments, you will gain access to the amount. In the case of a secured credit card, you deposit an amount with the issuing bank, which then gives you access to a line of credit equal to your deposit.

Once you generate a score, learn how to maintain or improve it using a credit score simulator. The following good credit habits can help grow your scores.

• Pay bills on time. This habit is perhaps the most essential.
• Use your credit cards regularly but keep it light. Try not to exceed 30% of your card’s limits.
• Pay balances in full. Avoid carrying over credit card balances.
• Avoid closing accounts too soon. Wait until your credit score reaches at least 760 before you close one or two accounts, starting with the lower-limit cards.

Credit Scores Affect Your Access to Mortgage

Mortgage lenders use your credit scores to determine how likely you are to default on your mortgage payments before they approve your mortgage. They may deem you too high a risk if you have bad credit scores.

Your scores determine the interest rate at which your mortgage is approved. Better credit scores translate to a lower monthly mortgage payment, whereas poor scores lead to a higher amount. Depending on how bad your score is, the mortgage lender may deny your application altogether.

Credit scores also affect renters because landlords use your scores to determine whether to rent you a home. Landlords consider tenants debtors, so they want to know if they will honor their debt.

Credit Scores Impact Your Purchasing Power

This may come as a surprise, but your credit scores may impact your access to utilities. Companies that provide these services argue that they lend you one month’s worth of utilities. For that reason, they need to check your scores to see if you’ll pay. So your scores may affect your ability to access water, electricity, cable, and so on.

Your history of paying bills affects your credit score. Lenders, landlords, utility companies, and employers use this score to determine how financially responsible you are. Always keep your credit score in mind when making financial decisions, as your score directly or indirectly impacts your quality of life.