Your FICO credit score is hugely important. It helps lenders decide whether to offer you a loan and what interest rate to charge. In addition, issuers check your score when you apply for a credit card. A decrease in your score is unwelcome and often mysterious. Let’s cut through the confusion and examine five reasons why your FICO score might drop:
When you apply for a loan or credit card, the creditor does a “hard” credit check. When a credit inquiry is hard, it is recorded on your credit report, where it remains for two years and causes your score to drop by several points. FICO considers new credit applications as a possible sign of financial distress, especially if they occur frequently. Other credit checks are “soft” and don’t affect your credit score.
Prevention: Don’t apply for credit more than once every six months.
Payments that are late by 30 or more days are considered delinquent. They can drop your score by dozens of points and remain on your credit reports for seven years.
Prevention: Always pay your bills on time. For credit cards, submit at least the minimum amount by the due date. If you’re having trouble affording your payments, contact your creditors and ask for assistance.
FICO measures how much you owe to your credit cards using a metric called credit utilization ratio (CUR). It equals your credit card debt divided by your total available credit. For example, if you owe $2,500 to your credit cards and have $7,500 of available credit, your CUR is 33%. FICO penalizes your credit score when your CUR exceeds 30%.
Prevention: Keep track of your CUR and pay down your credit card balances whenever it exceeds 30%.
FICO rewards consumers who have maintained long relationships with creditors. Canceling a credit card can reduce the average age of your credit accounts and might raise your CUR.
Prevention: Don’t cancel old credit cards, even if you don’t use them anymore. Instead, try to use them at least once a year so that FICO doesn’t treat them as defunct.
Several significant credit report items can drop your score by dozens of points (or more). They include:
These derogatory items remain on your credit reports for 7 to 10 years.
Prevention: Before things get out of hand, seek out a nonprofit credit counselor or a financial advisor who can help you find a solution that preserves your credit.