Credit scores - How to improve them in less than 3 months

Let’s address what comprises a credit score, so you can understand how the formula breaks down. 35% of the score is based upon payment history. The more recent and derogatory the late payment, the more negative effect it has on the score. Missing low payments is better than missing high payments. So, if you missed a $40 per month payment, it won’t have as negative an effect as if you missed your car payment of $650.

The second category measures the balances out on the account. This is a tricky area. If you understand it, you can significantly tweak the credit score. Ideally, you want to keep your balances below 10% of the available credit limit. Therefore, you are better off spreading your balance over a few cards than having it all on one card.

An example of this is as follows: A client came to me with a credit score of 664. This individual did not have the ability to prove their income with tax returns, so they needed to do a stated income loan. On a stated income loan, you need as high a credit score as possible to obtain the premium interest rate. One thing I noticed was that this individual had $17,000 in credit card debt, and it was almost entirely on one card. This card had a limit of $20,000. This individual also had four or five other credit cards that had zero balances.

I knew that the higher the balance relative to the credit available, the lower the score would be. So, I then instructed that client to disperse the $17,000 of debt over the four or five other cards. He therefore brought the debt ratio on all the cards below 30%, which is the next threshold up after 10%. This caused his score to jump 18 points to 683. 680 is a magical barrier when it comes to interest rates, and it made the deal happen for that client. That is one example of what you can do if you really understand the credit-scoring model.

The next thing to understand is that the scoring system does not discriminate between personal and business credit cards. So, if you have business credit card debt and it’s maxed out, that will hurt your score. If you go over 30% of the available credit, you’ve crossed that next threshold, and you’ve diminished your score. Once you go above 50%, your score diminishes even further, and then you are really in trouble if you go above 70%. That’s when you begin to be heavily penalized on your score, and people drop down into the high 500’s or low 600’s.

Comprising 15% of the credit score is the length of credit history. This means you want to hold on to old credit cards, even if the rate is not good. You are rewarded for having long-term credit card debt.

Let me give you another creative example to illustrate this point: Say you have a client with a credit high of $20,000. This means she has a maximum of $20,000 in credit among all of her cards. This individual has two cards that total $18,000 in actual debt. There is room for about $2,000 to be charged, and then she would be maxed out. It would be much better for this individual to go out and get two new cards with $5,000 of available credit on each, and disperse that debt over all four cards.

You might say, “You just said that 15 % of the score is penalized for not having a long history.” That is correct. However, the credit length issue represents only 15% of the model, whereas the credit balance issue represents 30%. So roll with me on this for a minute. Yes, she will be
penalized on the new cards she just obtained, but they will benefit by having those balances reduced, and that section of the score is worth twice as much. So we’re going to drag those credit balances down to below the 70% threshold. This will cause her credit score to jump.

The next category, comprising 10% of the score, is the type of credit. A good mix is always best—an auto loan, a mortgage payment, a few credit cards, etc. Three to five revolving credit accounts (credit cards or lines of credit) is the optimal number that the score really rewards. Anything less than that means you haven’t established enough credit. Anything more
than that and you’ll be penalized because there will be concern that you
are a heavy credit user.

A mortgage will raise your score, once you’ve made the next payment. New credit temporarily drops your score until it leaves the unrated status position. If you go out a get a new credit card, until the first payment is made and the account registers in paid status, the account will be
unrated. So, for the first 45 days or so, before you make your first payment, your score will be penalized. After that first payment is made, however, your score will begin to go up.

The final category, which also represents 10% of your score, is inquiries. Multiple mortgage and auto inquiries are treated as one as long as they are within a 14-day period of time. In other words, if you go to four different auto lots and three different mortgage brokers in one day, and
they all run your credit, this will only be treated as one inquiry. If you shop over an extended period of time, that will bring your score down.

Inquiries will affect your score for up to one full year. They don’t drop off until a year after you have your credit inquired upon. Your score is only reduced for the first ten inquiries. In other words, if you go out and rack up nine or ten inquiries, you will see some significant reduction in your score, even though it only represents 10% of the model. It can be anywhere between 2 and 50 points, depending upon the other variables involved. However, once you get to 10, you might as well go out and get 50 inquiries, because it’s not going to affect you any differently than if you had just 10.

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