Building Credit

Mar 2024 | Featured, Financial Education

For this week’s #FinancialEdFriday, we are discussing what contributes to a credit score.

 

Before we build credit, let’s discuss what a credit score is:

It is vital to understand what a credit score is and what factors impact your credit score to work on building or repairing your score.

Your credit score rates your perceived ability to fulfill a financial commitment. Essentially, it determines how likely you are to make a loan or bill payment on time. If you haven’t already read our Credit Basics blog, start there: Credit Basics – Alaska Air Group Credit Union (aagcu.org)

 

5 Elements determine the FICO Score:

There are five elements that determine your FICO score, and each element is weighed differently. It is important to understand the components that have the most impact on your score, and how you can leverage those parts in your favor.

The percentages below represent the weight of each element in your overall score (i.e., 35% percent of your score is determined by your payment history).

35% Payment History

This weighs most heavily in determining your credit score. Payment history includes:

  • Any bankruptcies, judgements, liens, collections, and wage garnishment.
  • Number of accounts paid as agreed (on time and in full).
  • Late payment information – number of past due loans and how long they have been past due.

How to improve: Consistently make payments on time and establish a history of at least 6 months of good payments.

30% Capacity

Capacity is defined the available credit limit vs the outstanding balance on credit cards or lines of credit.

How to improve: Try to keep your credit utilization (how much of your credit limit you spend each period) under 30%.

15% Length of Credit

This is determined by:

  • How long ago your credit file was established.
  • How long individual credit accounts have been established for.
  • The age of the oldest account, and the average age of all accounts.
  • How long it has been since you used your credit accounts.

How to improve: When possible, keep old credit accounts active.

10% New Credit

             This is based on:

  • How many of your accounts are new.
  • How long it has been since a new credit account was established.
  • How many credits inquiries have been made on your credit file.
  • How long it has been since hard inquiries were made on your file.

How to improve: Try to limit hard inquiries on your credit and don’t take out a lot of new credit in a short period of time.

10% Types of Credit Used

A mixture of account types generally scores better. Types of credit include:

  • Credit Cards
  • Installment loans
  • Mortgage loans.

How to improve: Have a mix of revolving (i.e., credit cards, lines of credit) and installment credit (i.e., auto loans, personal loans, mortgages, etc.).

How do I build a good credit score?

Building credit takes time and consistency. To ensure you are on the right track to building your credit score, there are a few good rules of thumb to follow.

In general, creditors will consider a score legitimate if it has three tradelines (or credit account) with at least one account with 24-months of consistent and on-time payment. This establishes a long enough history to show your payment consistency.

Having a mix of revolving and installment credit over time provides a clearer image of your ability to make a payment on time.

Note: Student loan payments do NOT count as a tradeline if it is in deferment. Once you begin paying for them, then it does.

 

Negative impacts on credit:

  • Missing or delinquent payments.
  • Maxed out credit cards.
  • Closing credit lines, especially the oldest one you have.
  • Shopping with credit excessively.
  • Opening multiple new accounts in a short period of time.
  • Using too many revolving loans.
  • Bankruptcy.
  • Foreclosure/short sale.

 

Things that don’t affect your score:

(Unless you are sent to a collection agency)

  • Age.
  • Income.
  • Bank Overdrafts.
  • Rent Payments.
  • Insurance Payments.
  • Child support or alimony.
  • Utility and cell phone payments.
  • Current interest rates.
  • Credit counseling.

 

Pay yourself first:

Credit is an important part of your financial journey. It can open doors for better rates on loans, insurance premiums and even help with employment opportunities. As we discuss credit education this month, we want to make a crucial point that you should always pay yourself first. This means that you should prioritize your savings at the beginning of your budget, rather than waiting until the end and only saving if you have extra funds in the budget. Paying yourself first and working to develop an emergency savings fund will allow you to use credit intentionally, rather than out of desperation in an emergency. We recognize that emergencies happen and that credit cards can be useful in case of such emergencies. However, when possible, using emergency savings can help you in a difficult situation, and keep your budget and credit score journeys on track.

Now that we know how a credit score is determined, let’s discuss different ways you can build credit.

Secured credit cards: A credit card with a cash deposit you provide as collateral when opening the card. The cash deposit typically equals your credit limit.

Credit Cards: Using a credit card will help build credit, when done correctly. Look for a card with no annual fee and a low APR. Be sure not to run the balance too high. A good rule of thumb is to not exceed 30% of your credit limit and pay in full whenever possible.

Authorized user on credit cards: This is ideal for parents who want to help children build credit. All transactions would be one balance, where the account owner manages payments, but the payment history record is added to both users’ report.

Bill payments: Some credit agencies allow you to add your cell phone and utility bill payments to your credit reports. This shows your ability to pay for usage each month.

Credit builder loans: The amount borrowed isn’t given to you, but rather the credit union or bank holds it in a savings account while you make payments. When you repay the loan, you get the money back. This is a fantastic way to build savings and credit in one go.

 

Additional note: If you’re taking out a credit builder loan, you may be tempted to make two or three payments and then pay the rest off. However, we recommend paying the loan for at least 6 months, but making consistent, on-time payments for 12 or 24 months is even better to establish payment history on your credit report.

AAGCU offers credit builder loans to help you in your financial journey. Whether you are looking to set up and build credit, or repair and improve your score, our loan department can help you customize a plan that’s right for you.

Email the loan department at loans@aagcu.org or call 206-824-9800 (option 1 for loans) to get the conversation started.

Check out our financial wellness partner, Banzai’s, interactive coach for personalized tips for your credit building situation.

Overall, if you keep credit card and pay consistently and on time each month, you’ll be on the right track. If your credit isn’t where you want it to be, reach out to AAGCU. We are here to help support you on your financial journey.

Keep an eye out for more #FinancialEdFriday’s throughout March!

 

Questions?

If you have any questions, feel free to contact us at (206) 824-9800 or by email at info@aagcu.org or email the loan department at loans@aagcu.org or call 206-824-9800 (option 1 for loans) to get the conversation started.

Have any other topics you want us to explore? Let us know below!

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