Do you know your credit score? When was the last time you checked your credit report? Your credit history plays a key role in your financial future, yet most people are blissfully ignorant of how credit scores work--and how to improve them.
Companies like Fair Isaac use secret formulas to crunch data from your credit report, comparing it to millions of other people. Such formulas spit out a single number that helps banks and credit card companies decide how much to lend you and at what terms. This number is your credit score (the most common, from Fair Isaac, is called a FICO score).
"A good credit score can make a big difference in a small-business owner's life," says Liz Weston, author of Your Credit Score, Your Money & What's at Stake. She notes that while there are lots of different credit scores out there, most lenders base their decisions on your FICO score.
So, how can you boost your score? "There's only one way to improve your score quickly, and that's if there's untrue negative information," Weston says. "If you have somebody else's account showing up on your credit report and you get that taken off, for instance, you're likely to see a quick improvement in your scores. Other than that, it's really a game of small improvements over time."
To build your score:
- Pay off debt. "The most powerful thing you can do to improve your credit score is to reduce your credit utilization," Weston says. The less you use of your credit limit, the better your score.
- Pay on time. According to Weston, if your FICO score is 780, a single late payment can drop it 100 points.
- Limit new accounts. Opening new accounts has a small but noticeable effect on your credit score. Keep new accounts to a minimum, especially if you're planning a big purchase (like a home or a car).
- Don't close old accounts. This may seem counterintuitive, but to maximize your credit score, keep accounts open, but unused. If you have to close an account or two, close newer accounts before old ones.
- Keep tabs on your credit. Even small errors can hurt your score. Check your credit report regularly and get problems corrected.
A 2004 survey from U.S. PIRG found that 79 percent of credit reports contain errors; 25 percent are serious enough to affect a person's ability to get credit.
By law, each of the major credit reporting agencies--Equifax, Experian and TransUnion--has to let you review your credit report for free once a year. You can get reports from all three at once, or you can stagger requests.
Like it or not, your financial future is affected by your financial past. Even a mediocre credit score can cost you tens of thousands of dollars over your lifetime. Raising your credit score is pure profit.
This story appears in the August 2011 issue of Entrepreneur. Subscribe »
