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How To Avoid 7 Common Credit Score Mistakes

This article is more than 8 years old.

Making a credit score mistake can be costly. A high credit score is the key to getting lower interest rates on your mortgages, auto loans, credit cards and even lower auto insurance premiums. Here are seven of the most common mistakes that end up costing people money, and how to avoid them.

1. You Close Old Credit Card Accounts

As a general rule, you should never close an old credit card account. According to FICO, "we never recommend closing a credit card for the sole purpose of raising your FICO score." Keeping unused credit cards open is important because it helps keep utilization low. Utilization is a very important part of your credit score, and it is calculated by looking at your statement balance in relation to your available credit limit. For example, if you have a $100 balance and a $1,000 credit limit, you will have 10% utilization. Having a lower utilization can help your credit score. According to data from Experian Decision Analytics, people with the highest credit scores (above 780) have utilization of only 5.6%. People with credit scores below 600 had utilization of 77 .2%.

When you close an unused credit card, you are reducing your available credit and increasing your utilization. A higher utilization could lead to a lower credit score. But you shouldn't have to pay an annual fee to keep a credit card open. If your unused credit card has an annual fee, call your credit card company and ask if you can migrate your card to a no fee option. Most credit card companies have a no fee credit card available, and you can just migrate your limit.

2. You Take Too Long To Shop For The Best Rate

If you are looking for a mortgage, auto loan or student loan, you are encouraged to shop around for the best interest rate. FICO wants to encourage people to rate shop so that they can get the best deal. To allow rate shopping, FICO will ignore mortgage, auto loans and student loan inquiries made in the 30 days before scoring. "So, if you find a loan within 30 days, the inquiries won't affect your score while you are rate shopping."

Hard credit inquiries will eventually take points off your score. For the most recent version of FICO, all inquiries made during a 45 day shopping period will only count as one inquiry. On older versions of FICO, the shopping period is only 14 days. But this all leads to the same advice. If you are looking for a mortgage, auto loan or student loan, do all of your rate shopping as quickly as possible. Don't delay your rate shopping, because the inquiries can start to have an impact on your score and end up costing you more in the long run.

Remember that credit cards, personal loans and other types of unsecured credit do not have the same benefits. Every inquiry counts. FICO is treating debt to buy homes, automobiles and fund education as different from other types of consumer debt.

3. You Don't Use Credit, Even Though You Have Access To It

In order to have a credit score, you need to have at least one account that has been open for at least six months. In addition, you need at least one report to the credit bureaus in the last six months. In order to build a credit score, data is required. If no data is being reported to a credit bureau, it is impossible for a credit score to be constructed. If you are debt free and never use a credit card, you will not have enough information for a credit score.

It is easy to build a credit history. You only need one transaction a month in order to have activity reported to the credit bureau. An easy tip is to automate one bill each month. For example, you could set up automatic payment of your cell phone bill with your credit card. That amount would appear on your statement balance every month, which is reported to the credit reporting agencies. It is important to remember that you do not need to pay interest on your balance to build a good credit score. If you pay your statement balance in full and on time, no interest will accrue. You do not have to go into debt to get a good score.

4. You Max Out Your Credit Cards

When you max out your credit cards, you look risky to lenders because your utilization ratio would be high. If you have had the same credit card for a long time, your credit limit may not reflect your higher income. As a general rule, the lower the utilization the better. If you are still using a credit card from your first job after college, you might want to call the credit card issuer and ask for a credit limit increase to reflect your new salary. Alternatively, you could apply for a new credit card to create additional limit that you would not use. You would have a short term reduction in your score from the credit inquiry, but over time you would be better off so long as you do not build up debt on your new card.

5. You Became A Co-Signer

When you co-sign, you are responsible for the debt. That means the debt will likely appear on your credit report, and it will look like you owe the money (because you do). Your total debt will look higher. And, if payments are missed, your credit score will be harmed. Be very careful before co-signing for anyone. Banks generally ask for a co-signer because the individual cannot qualify for the credit on their own. You will likely be taking a big risk if you do sign on the dotted line.

6. You Don't Review Your Credit Report 

Identity and account theft are increasingly common. The only way to ensure you are not a victim is to review your credit report regularly. You are entitled to one free credit report every year, which you can download from AnnualCreditReport.com. It is important to check your report with all three credit bureaus, because inaccurate information can often appear on only one of the reports.

7. You Don't Worry About "Just One" Missed Payment

The single most important part of your credit score is making payments on time. According to FICO, "Delinquent payments, even if only a few days late, and collections can have a major negative impact on your FICO Scores." And higher scores fall faster. You should do everything possible to automate regular, on-time payments. Often, creditors will not report a late payment until you are at least 30 days past due. However, you should eliminate all risk and ensure you pay on time. And once a collection item hits your credit report, it will stay on your report for seven years. Even paying that collection account will not remove it from your report or your score. 

Nick Clements is the Co-Founder of MagnifyMoney.com.