Your credit score is based on a complicated, murky calculation, but you can fix it by focusing on 2 easily controllable factors
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- You can improve your credit score by focusing on two factors: your payment history and your current debt balances.
- Credit bureaus tend not to share the exact calculations they use for credit, but they've shared an overall idea that makes it clear payment history and debt balances have a bigger impact on your score than anything else.
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Your credit score is calculated using a formula with a ton of inputs. But while the companies behind your credit score don't make the exact calculation public, we do know the most important factors in our credit.
You may hear a lot of theories about tricks to quickly fix your credit, but there are two places you should focus above anything else: Always pay on time and keep your rotating account balances low. If you can do those two things and resist the urge to tinker with your credit report, much of the rest of your credit will take care of itself.
Here are the two most important strategies you can use to build an excellent credit score in the short and long-term.
The factors in your credit score
While we don't know exactly how your credit score is calculated, the big credit scoring agencies have given us a lot of insight into the high-level factors. These are the top five inputs in your credit score:
- 35% payment history
- 30% current debt balances
- 15% length of credit history
- 10% new credit
- 10% credit mix
If you add up the bottom three factors, you get 35% of your credit score. That means the top factor alone is worth as much as the bottom three combined.
While you should certainly not ignore your average age of credit, pursuit of new credit, and credit mix, those factors don't deserve much attention. Unless you are planning to apply for a new mortgage or auto loan in the next six months to a year, there are two clear places to put most of your efforts: payment history and current debt balance.
Two inputs contribute more than half of your credit score
Payment history makes up 35% of your credit score and your current debt balances make up 30%. Combined, that's 65% of your credit. If you put all of your efforts here, the rest should fall into place.
Also, consider how your credit score factors come together. If you pay your credit card on time for years, your length of credit history will automatically go up over time. If you don't sign up for new credit accounts while doing it, your new credit factor won't drag down your score.
Now that you know where to focus, let's take a look at what you should do to get a perfect score in the payment history and debt balances portions of your credit score.
Never, ever make a late credit or loan payment
The most important factor in your credit score is your payment history, so this deserves the most focus. Further, a late payment stays on your credit report for seven years, so it takes a long time to fix a mistake in this area.
Contrary to a popular myth, you don't need to carry a balance to build an on-time payment history. If you don't have to make a payment, it is considered similar to an on-time payment. Just make sure you use your cards at least every once in a while to avoid having them closed for inactivity.
The easiest way to avoid late payments is setting up automatic payments, or auto pay. I have a few old credit cards that get a small charge every month - one gets Netflix, one gets Spotify, and one gets Hulu. I don't use those cards for anything else generally, so I have automatic payments set up and I never have to worry about paying late or overdrafting.
On my more active accounts, I generally pay them off in full a few times per month. This helps me avoid having to make one big payment at the end of the month. There is no penalty for making extra payments, there is only a penalty for missing them.
If there is any one thing you should do for your credit, it is always pay on time. No exceptions.
Keep your credit card balances at zero
The second biggest factor is your credit balances, which make up 30% of your score. If you have bad credit and high credit card or credit line balances, paying them off in full is often the fastest way to improve your score.
Paying off your credit cards may be easier said than done, but the best strategy for your balances is keeping them at $0, or paying them off in full each month to $0. If you pay off your card in full by the due date, you never have to pay interest.
Paying on-time and keeping your balances low saves you money and builds your credit. If you have credit card balances, paying them off is the biggest win-win you can find. It may be easier said than done, but sticking with a debt avalanche plan may help you get those balances paid off for good.
Don't obsess over the little things
I have ultra-frugal friends who obsess over things like saving 10 cents on a tube of toothpaste or a nickel on shampoo. While a penny saved may be a penny earned, focusing on budget big wins can put hundreds or thousands of dollars back in your pocket. Your credit works the same way.
A new credit inquiry typically dings your score by just a few points, where carrying a large balance on your credit cards can drag it down by dozens of points. A single late payment is a lot worse than a few inquiries. Focus on the big things, not the little things.
For your credit, the two big things are paying on-time and keeping balances low. If you can do those two things, you are on track for short-term and long-term credit success.