To err is human, we all learn that painful lesson fairly young. But with all the lessons we learn in school and at home, how often have we received instructions on what credit mistakes to avoid? Most likely never. Credit mistakes can do some major damage to your credit score, which can affect your financial life in many ways. While the mistakes are fixable—more on that in a minute—it’s best to avoid making them whenever possible.
What is a Credit Score Exactly?
Before we dive into what mistakes negatively affect your credit score, it can be helpful to understand what a credit score actually is. One of the biggest misconceptions is that your FICO Score is your one and only credit score. While people often refer to a credit score as a FICO Score, there are many types of credit scoring models used by different scoring companies and lenders. The reason you hear about FICO’s model so often is because it is the one used most often, by around 90 percent of top U.S. lenders. The fact that it is the most popular credit scoring model means you can often expect lenders to use the following model (or similar ones) to determine your credit score.
35% – Payment history. Your payment history tracks past actions like if you’ve made debt payments on time. Late payments can damage this category and on-time payments benefit it.
30% – Amounts owed and credit utilization. These terms refer to how much debt you currently owe compared to how much credit you currently have available to you. The more unused credit you have available, the better.
15% – Length of credit history. This category looks at how long you’ve been a credit holder. The longer you’ve been a responsible credit user, the higher this score will be.
10% – New credit. This category refers to the amount of new credit you’ve recently obtained. In general, you want more old credit than new credit.
10% – Credit mix. Your credit mix is important to lenders because they want to see that you can responsibly handle a variety of credit types such as a credit card and an auto loan.
The Lasting Impact of Credit Mistakes
There are four main types of credit mistakes you can make. Let’s take a look at what they are and how long they may affect your credit score.
Late payments: 7 years. One mistake you should really aim to avoid is making late payments on a credit product such as a credit card or a personal loan. Late payments reported to the three main credit bureaus—TransUnion, Equifax, and Experian—will stay on your credit reports for seven years past the day you first missed a payment. Remember, payment history accounts for 35 percent of your credit score, so taking a hit in this category will be strongly felt.
Debt in collections: about 7 years. Let’s say you are very late on a payment for a utility bill or a store credit card (typically after the 120 days past-due point), there is a chance your creditor will sell your debt to a collections agency. The credit agency will likely report your debt to one of those previously mentioned credit bureaus. The effect of having debt sent to collections can result in a ding to your credit score for about seven years. Certain scoring models are more forgiving once you pay off the debt in collections or if your debt is medical-related, but in general, it’s best to avoid missing payments that may lead to collections.
Bankruptcies: about 10 years. The type of bankruptcy you file for will alter how long this event stays on your credit report. Chapter 7 bankruptcy can remain on your report for 10 years, whereas other forms of bankruptcy can hang around for various timeframes (Chapter 13 remains on your credit report for seven years). After two years pass, your score will feel less of an impact from bankruptcy, but it will drop significantly at first.
Hard inquiries: up to 2 years. This mistake is a bit blurrier, as hard inquiries are generally unavoidable when applying for a credit product. Where the error comes in is when you make too many hard inquiries when shopping around for credit. Every hard inquiry you make will deduct five points or less off your score. Oftentimes, credit scoring companies will cut you some slack if you’re shopping for loan products such as mortgages, as they can see there may be multiple inquiries made during a relatively short time period. Hard inquiries will stay on your credit report for about two years, although the effect diminishes somewhat after the first year. Whenever possible, working with a lender who offers a pre-approval process can be helpful, as you’ll gain an idea of what rates and terms are available to you without making a hard credit inquiry.
These four mistakes aren’t the only ones that can negatively impact your credit score. You’ll want to avoid foreclosures and repossessions as well, as they’ll remain on your credit report for seven years.
How to Fix Credit Mistakes
If you’ve made a credit mistake, that’s OK. While not ideal, you can repair your score over time with patience and hard work. There are a few ways to fix your credit score, but the first step is one people often overlook. Each year, you can request one free credit report from each of the three main credit bureaus. While the report won’t include your credit score, it will allow you to review your credit history to see if any errors were inaccurately reported by banks or lenders. These mistakes can happen, and if you discover one, you can contest it.
Once you’ve ensured your credit report is accurate, you can take gradual steps towards improving your credit score. Look back at the five categories that make up your score: payment history, amounts owed and credit utilization, length of credit history, new credit, and credit mix. Making payments on time, keeping your oldest credit accounts open, not using too much of your credit at once, and utilizing a mix of credit products can all help you boost your score. These actions should be ones you make consistently over long periods of time. To make an extra effort, you can consider taking the following steps if they apply to your specific credit situation.
For those that need more credit utilization, it’s best to try to expand your existing credit limits before you open new accounts. Remember, opening new credit products will shorten the average age length of your credit. Asking your current credit issuer to expand your credit limit won’t harm your credit score, so it’s worth a quick call. Start with your oldest credit accounts first, as those lenders have more of a history with you and will be more likely to expand your credit limit if you’ve made responsible payments in the past. Having a bigger credit limit will help you keep your rate of credit utilization low, which credit scoring models like to see.
If you’ve had debt sent to debt collectors or debt collection agencies, you can always try to barter with them. They’re often willing to cut deals in order to get some or all of the payments they are owed. One request you can make (although there is no guaranteed yes to this request) is to ask them to remove the bad mark from your credit report once you pay what is owed. This process is often referred to as a “pay for delete agreement.” If you’ve already paid your debt, you can contact either the debt collector or the original creditor to request a “goodwill deletion.” Again, there are no guarantees, but writing a letter requesting they remove the collections account off your credit report is worth trying.
Another easy step you can take to improve your credit score is to do nothing at all, at least in the case of credit cards. It can be tempting to close credit cards you don’t use, but unless they have an annual fee, it can be beneficial to keep the accounts open. Doing so will keep the average age of your credit on the older side and will keep your credit utilization rates lower.
While researching other tips for improving your credit score, you may come across some companies that promise to help improve your score for a fee. Most of these companies aren’t legitimate, so it’s best to avoid them if you come across them.