Image source: Getty Images.
Continue Reading Below
Most people have a general idea of how to get a good credit score, like by paying your bills on time, avoiding excessive debt, and not applying for too many credit cards, to name a few things. However, there are some pervasive credit myths that prevent lots of people from maximizing their own credit scores. With that in mind, here are three things to know about credit scores that could help you achieve the credit score you want.
1. Credit card debt is always bad
Credit card debt is not a bad thing. Too much credit card debt is bad.
In fact, having a small amount of credit card debt could actually help your score. The FICO credit scoring formula is by far the most popular, and while we don't know the exact formula, we do know that it is divided into five specific categories. Thirty percent of your credit score comes from "amounts owed," and a large part of this category comes from your credit account balances relative to your total available credit.
This is known as your credit utilization ratio. For example, if you have a credit card with a $5,000 limit and you have a $1,000 outstanding balance, your utilization ratio is 20%. Experts generally suggest limiting your credit utilization to less than 30%, and lower than that is better. And, while the specific FICO formula is a closely guarded secret, the consensus among people who have achieved the highest scores is that having a little bit of credit card debt is actually better than none at all. In fact, SubscriberWise president David Howe, who achieved perfect 850 FICO scores,told me that you need an active credit card with a balance to get to that magic number.
2. Closing old accounts will help your score
If you have an old "starter" credit card, or just some old accounts you don't use anymore, it may seem like a good idea to close them. In reality, doing so might drop your credit score.
Closing old accounts can hurt your score in a couple of ways. First, it reduces your available credit, and therefore makes your overall utilization look higher. And, as we already discussed, this affects a big part of the scoring formula.
In addition, this affects the "length of credit history" category, which makes up 15% of the scoring formula. This considers a few things, such as the age of your oldest account (open or not), the age of individual accounts, and the average age of all of your active accounts. So, closing your older credit accounts can remove a pretty valuable scoring asset from the equation.
Now, even though it's likely to ding your credit score, there are still some valid reasons to close your old credit accounts. For example, if the account has a massive annual fee and doesn't provide any useful benefits in return, it could be worth the short-term score drop to get rid of that burden.
3. Checking your own credit score can hurt you
You may have heard that if your credit is checked too many times, it can make your score go down. This is absolutely true, but there are two types of credit inquiries hard and soft.
A hard credit inquiry is what happens when you apply for new credit. The bank or other institution will run a credit check to decide whether to loan you money, and these inquiries are counted toward your score. These are part of the "new credit" category, which makes up 10% of your score.
On the other hand, soft inquiries don't count toward your score, and are not visible when companies are checking your credit report. These include when you check your own credit, as well as certain other inquiries, such as periodic checks by your existing creditors and pre-screening credit checks that result in that stack of credit applications in your mailbox.
So, if you want to keep a close eye on your credit and check your score every few days, go right ahead. It will have absolutely no impact on your credit score or report.
Don't be a sucker to credit myths
These are just three examples of many credit myths that can prevent you from maximizing your own credit score. The best way to avoid these myths and focus on the realities of credit scoring is to know exactly how the FICO scoring formula works, and what affects your score and what doesn't.
The $15,834 Social Security bonus most retirees completely overlook If you're like most Americans, you're a few years (or more) behind on your retirement savings. But a handful of little-known "Social Security secrets" could help ensure a boost in your retirement income. For example: one easy trick could pay you as much as $15,834 more... each year! Once you learn how to maximize your Social Security benefits, we think you could retire confidently with the peace of mind we're all after.Simply click here to discover how to learn more about these strategies.
Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.