In my perfect world, there would be no credit scores. And while I do not believe that credit is necessarily evil, in that perfect world of mine, there would be no need for any of that because it would be, well … perfect!
Back to reality. There are myriad reasons we need to have good credit histories and excellent credit scores.
Like it or not, lots of things are now predicated on one’s credit score. Take automobile insurance premiums, for example. Want the best rates? You’ll need a good credit score.
Want to make sure that out of all the applicants, you get that really great apartment? You must assume that your potential landlord is going to look to your credit history to determine if you will make a reliable, on-time-paying tenant.
Are you vying for a job with a great employer? Better hope your credit file is clean and represents you well because, in most states, employers are allowed to look at the way you handle your finances.
We live in a world where, in select situations, one’s credit report is considered a character reference. Look in my credit file and you will get a good idea of how I manage my life. You’ll see evidence for how seriously I take my commitments, a little about my personal integrity.
The most highly regarded, and the one used by most lenders and others who look at credit scores, is the FICO score. Each of the big credit bureaus has its branded version of FICO. How these scores are determined, based on the collected information in one’s credit file, remains proprietary with the Fair Isaac Corporation, creator of the FICO score.
We do know, however, that FICO?looks at what it calls “utilization rate.”
Your utilization rate is your credit limit compared with how much of that available credit you are using at any given time, expressed as a percentage.
So, if you have a credit card with a $1,000 credit limit and a $100 balance owing, then you are 10% “utilized” on that card. You figure utilization rate by dividing the balance owing on the account by the limit on the card and then multiplying that figure by 100. ($100 / $1,000 = .01 x 100 = 10)
You can figure your “aggregate utilization rate” by adding together all of your credit card balances, dividing by the total of the credit limits on all of those accounts and multiplying by 100. Credit scoring looks at both utilization rates.
The best utilization percentage to have is 0% because then you have no credit card debt and you’re not paying interest. But, since that’s not realistic for everyone, the best percentage is the lowest percentage you can achieve. In fact, according to FICO, consumers who have exceptional credit scores above 800 have an average utilization percentage of 4%.
There are reports all over the internet that insist 30% or 50% are the “target” percentages in order to achieve great scores. Those are false reports. In fact, nothing terrific happens at either 30% or 50%. Certainly, 30% is better than 50% but not as good as 20%.
Think of utilization rates as you would golf: The lower the score, the better. Generally, to achieve the best credit score, your utilization rate should be under 30%, with the goal to get it down as low as possible.
Pay down your credit cards as much as you can. There’s nothing good about having a lot of credit card debt. It’s expensive debt and it wreaks havoc on your FICO score. If you can get your utilization rate below 10%, your score will thank you!
Question: On a scale of 1 to 10 where 1 = “couldn’t care less” and 10 = “totally obsessed and check it regularly,” what is your relationship with your FICO score?
Mary invites you to visit her at EverydayCheapskate.com, where this column is archived complete with links and resources for all recommended products and services. Mary invites questions and comments at https://www.everydaycheapskate.com/contact/, ”Ask Mary.” This column will answer questions of general interest, but letters cannot be answered individually. Mary Hunt is the founder of EverydayCheapskate.com, a frugal living blog, and the author of the book “Debt-Proof Living.”