Everyone knows that your credit score (FICO) helps you get a better interest rate, but what most people don’t realize is just how much it affects the amount you pay in interest.
There are many factors that affect your credit score and many ways to improve your credit score in a relatively short amount of time. Very often your score can be improved by simply addressing a few things that you’ve overlooked or didn’t notice. That’s why it’s important to review your credit report at least once a year, if not more often. By paying attention to, and addressing thing like late payments, the amount of credit you have available, the number of requests you have for new credit and write-offs, liens or foreclosures, you can avoid many of the credit pitfalls or even work to improve your current credit situation.
How Your Credit Score Affects Your Interest Rate
You might be surprised to find out just how much your FICO score actually affects the interest rate you get on your home loan. Just by raising your FICO 50 points can save you hundreds of dollars a year on your mortgage payment. If your mortgage payment is $1,080 at a 5.051% interest rate that same payment at a 4.829% interest rate would be about $1,050. That’s $360 a year, or $10,800 over the life of your mortgage. If you improve your credit score 100 points, those numbers double. The most surprising thing about this is that in many cases you can raise your FICO as much as 125 points in less than 2 months.
Considering that such a small reduction in your interest rate can make such a significant different in a mortgage payment, it’s well worth getting your FICO as high as possible before applying for a mortgage. To do this, you need to address 5 areas of your credit report.
35% of your credit score is determined by your payment history. This area concerns any late payments you have, bankruptcies, charge-offs or collections and can have some negative impact on your credit score. Information in this area can be disputed if it’s not accurate, but should be done with the guidance of a credit professional.
30% of your FICO is based on outstanding debt. By keeping your debt below 50% you improve your credit score. By keeping your balances below 25%, you are demonstrating behavior that is the lowest risk to lenders.
15% of your score is based on the length of your credit history. Keeping accounts open for as long as possible contributes positively to your credit score. Ideally, you want to have accounts that are open for longer than 7 years. This area can be managed by limiting the number of accounts you close and not transferring old account balances to new accounts.
10% is related to the type of credit you use. By maintaining a nice array of different kinds of credit. Having several accounts that are installment loans, revolving accounts and mortgage loans can contribute positively to your FICO. It’s also important to avoid high risk consumer finance institutes. These types of accounts include companies like CitiFinancial and American General. These types of accounts can bring your credit score down.
The final 10% is determined by new credit. This area relates to how long it’s been since you opened your most recent account. Also having more than 4 inquiries on your credit history within a 6 month period can have an adverse affect.
To find out more about how you can improve your credit score and how different to more wisely manage the difference area of your credit, visit our Improve Your Credit Score, Available Credit, Late Payments, Bankruptcy or Foreclosures, Requests for New Credit, the length of your credit history and Review Your Credit Report pages. To learn how to protect yourself from identity theft, visit our Identity Theft page, as well.