What if I told you that you could improve your credit score by climbing a pyramid?
You’d probably say, “Dang, that’s a lot of steps!”
And you’d be right
But what if we broke it down into just five steps; each one building upon the rest, each one individually important, and ultimately leading to your goal of an excellent credit score?
Well that’s what this page is all about. My goal is to highlight the building blocks of a great credit score, piece-by-piece, so that you understand how your score is calculated. Then we will offer simple techniques you can start using today to help you improve your credit score, climb the credit pyramid, and master the jungle.
If we could pay for everything in cash, we wouldn’t need to borrow. But let’s face it: unless you were born with an overflowing bank account, using credit is necessary to surviving the financial jungle.
A gazelle needs to visit the watering hole in order to quench its thirst, but it must be always be on the lookout for potential predators like that leopard over there. Gazelles smartly travel in packs for the safety in numbers, as well as use their quick speed to get away at the first sign of danger.
We too must be alert when managing our credit, since we know it is necessary for survival.
If we miss a few payments and max out our credit cards, our scores would take a hit and life would get more difficult. Finding a place to live, paying less for a new car, and even your ability to get a job could be impacted until you are able to improve your credit score.
To avoid feeling like a gazelle struggling to escape the leopard’s claws, being smart is the key to staying alive.
The credit score game can be a dangerous road to navigate, but if you manage it well, it can lead to huge benefits.
The secret to understanding how to improve your credit score is that there is no secret.
All credit bureaus use similar weightings of six key factors to calculate your credit score. These include how many accounts you have open, how long you’ve had these accounts, whether or not you pay your bills on time, etc. By scoring points in each of these categories, you will improve your credit score in no time. We will discuss these in more detail below.
But how can you improve your credit score now?
It boils down to these five simple steps:
Yes, that’s it. Just these five steps to achieving the credit score of your dreams and making the world your oyster.
Now let’s discuss how to use these steps to improve your credit score, climb the credit score pyramid, and make that dream your reality.
Remember the pyramid we talked about earlier?
Factors that carry the most weight in calculating your credit score represent the bottom of the pyramid and go up as the associated impact decreases. The key to building the excellent credit score you want is to understand how each of these factors are affected, and working on improving each individual factor.
Just like each part of a pyramid is essential to supporting the pieces around it and for maintaining its shape, so too must we give each factor some attention.
Now, let’s climb this thing by starting at the bottom and working our way up.
It all starts here. Did you make your payments on-time or not? This is the foundation of good credit, and as the most important piece, it makes up 35% of your entire score. Making on-time payments shows lenders that you are reliable with repaying the money you owe.
Remember, on-time payments towards student loans, auto loans and mortgages also improve your credit score.
How to improve:
Pay your bills on-time ahead of time. If we just aim for “on-time” payments, we might be late one day. Instead pretend that the bills are due as soon as the statement comes out. If you aim to pay your bills ahead of time, you will never miss a payment and can sleep soundly knowing you haven’t accidentally forgotten to pay your bills.
The second most important factor affecting your score is the percentage of your total available credit that you are currently using. Maxing out your credit cards will earn you few points in this category because credit bureaus see this as a risky practice.
The key here is to only charge what you know you can afford to pay in full every month. Then, pay off your credit cards in full every month, never carrying a balance from one month to the next.
How to Improve:
Try to keep your credit card usage under 30%. Under 10% is ideal.
If this is difficult because you have a low credit limit, after a year of on-time payments, ask your lender for a credit line increase. This will instantly improve your credit because the amount you owe will be divided by a much bigger total credit base. Therefore, the percentage of credit you are using will be lower.
For example, if you are using $500 of $1,000 total available credit, then you are using 50%. Then, let’s say you called your lender to ask about a credit line increase and they bumped your limit to $5,000. Now you are using 10% of your available credit (500/5000 = 10%).
Just like magic, your credit score has gone up. Just try not to increase your spending every month and use up the new credit to avoid having the same problem in the future.
Here we are at the middle of the pyramid. How long you’ve had your credit accounts open has a moderate impact on your score. This is one where there is not much you can do to positively affect this category except wait. However, you could do some damage to this category by opening new accounts, or closing some of your existing accounts.
How to Improve:
The key here is to spread out the timing of opening new accounts. If you have two credit accounts and they were both opened five years ago, the average age of your credit is five years (not bad). Now let’s say you decide to open two new credit cards at once; your average age of credit will get cut in half instantly (not good). You definitely want to open multiple accounts so that a future opening won’t affect this category as much, but doing it over time is ideal so that they all have time to develop some history.
Also, try to keep your accounts open, especially the oldest ones. My oldest credit card (10 years) was recently automatically closed by the bank because I didn’t have any activity on the account for a few years. As you can imagine my average age of credit went down because we removed the oldest account. To avoid this, try to buy something every now and then on all your cards so that the banks don’t think that you’ve forgotten about them.
Credit bureaus like to see a credit report with multiple accounts, accounts of different types (mortgage, auto loan, credit cards, etc.), and accounts from different lenders. This shows that you are able to handle multiple accounts of different types, and that multiple companies trust you with their money.
However, this is where the credit game gets a little tricky because on the one hand, having multiple accounts open will positively affect this category, but opening them all at once will negatively affect the average age of credit.
How to Improve:
Open new accounts every so often, but space out the timing to avoid negatively impacting other parts of your credit score.
Every time you apply for credit, lenders pull your report to gage your reliability with repaying debts. This inquiry is noted in your credit report. One or two of these in a rolling twelve-month period won’t impact your score, but once you get to three and beyond, you will start losing points in this category.
How to Improve:
Don’t apply for credit too often. Try to have no more than two credit inquiries every twelve months.
Last but definitely not least is the category at the top of the pyramid, derogatory marks. Just like the block at the top of the pyramid is not adding support to other blocks, this category does not add points to your credit score.
However, derogatory marks on your credit report can have a huge negative impact on your score and destroy all of the work you have put in to building up the other categories. The worst part is that these things will likely stay on your credit report for seven years or more, making it really hard to improve your score until they drop off.
Derogatory marks include bankruptcies, accounts in collection, liens, etc. These are things that potential creditors are definitely wary about, so do your best to keep these from happening.
How to Improve:
The best way to deal with derogatory marks is to avoid letting them happen in the first place.
Benjamin Franklin famously advised the people of Philadelphia that “an ounce of prevention is worth a pound of cure”. While his comments were intended at addressing fire safety, this quote is just as applicable here.
As long as you follow the steps outlined above, you should not incur any derogatory marks. Also, be sure to regularly check your credit report for errors so that you can get those removed as soon as possible.
MyFICO.com is another great resource for information on how to improve your credit score.
Additionally, we are always looking to add new content with strategies and techniques to help you achieve your financial goals. You too can be a part of helping others find their way through the financial jungle!
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