Building and maintaining positive credit history is crucial to achieving financial stability. Credit scores and reports are used for loan approvals and rates, rental applications, employment applications, determining of insurance rates, and more. Amid misconceptions about how credit works, these common mistakes could end up costing you significantly more money on your loans and credit cards.
1. Maxing out credit card limits
A limit is the maximum amount of money a financial company will allow you to borrow at once. The amount owed on a credit card is measured against the amount available as a percentage. This is a credit factor known as utilization and is weighted heavily when calculating a credit score. The higher the percentage of a credit limit being utilized, the lower a credit score will generally be. One of the quickest ways to improve a credit score is to pay down revolving balances on credit cards and other lines of credit.
2. Opening several loan and credit accounts quickly
In an effort to build credit or improve credit scores, people often make the mistake of applying for multiple loans and credit cards at once to try to speed up the credit building process. Building credit takes time. By applying for multiple credit lines at once, this can actually hurt a credit score because it signals that there may be a financial problem causing you to need emergency money. Each application for credit can lower a score and this will also shorten your average age of credit history. The most effective way to build credit is to maintain accounts over an extended period of time. Opening a new credit card or loan every couple years can help to build your credit portfolio, but can hurt your score when done too frequently.
3. Paying off car and home loans first
Although it is admittedly satisfying to pay off a car or home loan early, it’s important to consider what other debt is being overlooked. Home loans and car loans are called “secured” loans because there is collateral that serves as a security for the lender if you stop paying on your loan. As a result, these are generally less risky loans and offer lower interest rates. Credit cards and personal loans are “unsecured” loans because there is no collateral. These loan types will generally have higher interest rates, meaning they will cost you more money in interest. By applying extra money to pay down credit card balances or high-interest personal loans, you’ll save money in the long run. Be sure to always pay all loans on time, but paying extra toward high-interest loans and credit cards will help eliminate debt more quickly.