José De La Rosa for Reader's Digest
If you believed everything you read about your credit score, you’d think it was the most important component of your financial health. Without a good credit score and history, the experts say, it’s more difficult to qualify for a mortgage or a car loan—and more expensive if you’re approved for a loan, too, because you won’t get the best interest rates. In many states, bad credit can even raise your insurance premiums, cost you a rental apartment, or make it harder to get hired.
While all of that is true, it doesn’t tell the whole story.
First off, there are several credit scores out there. While it’s important to nurture your credit scores by using credit responsibly, your FICO credit score may not be the same as what VantageScore reports, and lenders may use a different one entirely, so obsessing over one score can be a fruitless exercise. Find out the 13 things credit companies know about you.
More important, as financial reporter Dave Ramsey notes on his blog, your credit score is not a measure of your overall financial health. “All it tells you is whether you are good at borrowing money and paying it back. That’s it,” he writes.
FICO, the most popular credit-scoring agency, uses several weighted factors to determine your credit score, including payment history (35 percent), amounts owed (30 percent), length of credit history (15 percent), new credit (10 percent), and credit mix (10 percent). Believe it or not, these criteria allow you to be penalized for becoming debt-free!
My husband and I enjoyed steady credit scores above 820 for a while. But when we paid off one of our rental properties in 2017, we both saw our credit scores fall by 20 or more points. The sudden drop took place because we completed a 15‑year loan and reduced the average length of our credit history tremendously. In other words, because we paid off and closed a line of credit, our scores took a hit. Don’t miss these 8 other sneaky things that can affect your credit score.
That’s a racket if I’ve ever heard one. I would rather be debt-free than have a perfect credit score.
I do track my score and new accounts opened on creditkarma.com—which is free—but that’s mostly just to prevent fraud and identity theft, not to judge my score.
Your credit score is certainly important when you’re starting out and likely to borrow money for a down payment on a home or some other big purchase. But once you’re fairly established financially, it’s much easier to see it for what it really is: a measure of how well you borrow money.
Joe McKendry for Reader's DigestHolly Johnson is an award-winning personal finance writer and the author of Zero Down Your Debt.