Common Misconceptions and Misperceptions about Credit Scores

Applying for credit in an environment where lenders are reluctant to be too free with their lending standards requires being smart about your credit history.  If you are getting ready to apply for a loan, or if you are recovering from debt problems and are trying to improve your credit score to get back on track, make sure you understand what a credit score is, and more importantly what it is not.

Myth: a credit score and a credit report are the same thing.  Truth: a credit report is a document that lists everything that the credit reporting agency knows about your current and recent debt.  It includes the amount of the debt, who frequently you were late paying it, the amount of the monthly payment, and whether you have bankruptcy or judgments against you.  A credit score is a numerical score that tries to take much of the information on a credit report and place a value on your likelihood of defaulting on a loan.  The higher the score, the better a credit risk you are.

Myth: you can get your credit score once a year for free.  Truth: the requirement that the credit agencies give you an annual credit report applies to the actual file, not the score.  In fact, they now use the free annual report as a way to try to sell you a peek at your credit score, or monthly credit score monitoring.

Myth: a late payment will hurt your credit score for seven years.  Truth: a late payment here and there might have a negligible effect on your score, but it will not cause damage that cannot be overcome.  The score takes into account hundreds of different factors.  Although a late payment is one thing that he score will catch, the score gives weight to events that are more recent.  Once a late payment has been followed by a number of on-time payments, the late payment becomes much less significant.  Recent adjustments to the credit score mathematical models made this even more true: the new models try to break out the people who have intermittent late payments and not lump them in with people who are serious delinquency problems.

Myth: paying my utility bills on time will help my score.  Truth: utilities and your landlord will only report you to the credit agencies if they have to send you to collection.  Paying you electricity bill a few days late might result in late fees, but it will not show up on your credit report or credit score.

Myth: it’s the total amount of credit that matters, not the number of cards.  Truth: one of the factors that the score takes into account is the number of open accounts.  More accounts is not good.  However, changes to the credit score models in 2009 reduced the effect this will have on your score recognizing that today’s consumer carries more cards than they used to.

Myth: closing an old account will help my score.  Truth: one factor that is included in the score is how long you have had relationships with creditors.  Never close your oldest account.  As for other accounts, another part of the score is how much of your credit you are using.  So if you have one credit card that is empty and one card that is half full, closing the empty card will hurt your score because now it will look like you are closer to being maxed out on your cards.  Leave open any old cards and just shred the cards and never use them again.

Myth: checking my credit score will hurt it.  Truth: only multiple inquiries from different types of lenders will hurt your score.  Checking your credit, and a check by any lender who already has loaned you money, will not affect your score.  What will hurt your score is if a mortgage lender, a credit card company, and a home improvement finance company all start checking your score, or if there are multiple inquiries from all of the above.  Somebody who is running all over the place asking people to lend money makes the credit agencies nervous that something bad is happening in your life make you desperate for money.

The intricacies of credit scoring models are closely guarded and change from time to time.  The secret to keeping your score high is to pay your bills on time, avoid maxing out your open lines of credit, and develop long relationships with creditors who are willing to keep your credit lines open to show they trust you.