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In this biweekly series of columns, credit and debt expert Steve Bucci answers readers’ questions about credit scores and addresses important topics about building credit. Got a question for Steve? Ask it here.
I would like to know why my credit score is going down at a drastically high rate when all I am doing is paying off all my debt. In the last 6 months, I have paid off 2 auto loans, 2 credit cards, and making well above minimum payment in my remaining credit card balances. In the same 6 months, my score has dropped nearly 100 points. Please help! – Susan
That doesn’t seem right, does it? But the world of credit scoring is fair, so if your score is going down, there must be a good reason. Let’s see if we can make some sense of what has been happening.
Reasons why your credit score may have dropped
Your credit report contains errors
First things first: I want you to get copies of all your credit reports and both your FICO score and VantageScore on each report. You can get the reports for free at AnnualCreditReport.com. You may have to pay for your scores unless one of your credit card companies offers it for free.
Here’s why I want you to get this information: Every month millions and millions of pieces of data arrive at the credit bureaus to be posted. Most are right on the money, but some could use help finding the right home. A misspelled name, a mixed-up account in the lenders’ records, a “junior” that should have been “senior” suffix and more can get someone else’s data on your report.
By getting all three reports you’ll be able to see discrepancies faster. Also, not all the bureaus have the same information. Remember, they compete for business both into and out of their files. So, some lenders may only report to one bureau and not the other two. If there are errors you may find very different scores at each credit reporting agency.
If you see anything you don’t recognize as yours, that is more than seven years old, or something is missing, be sure to follow up using each bureau’s dispute process. They want accurate data as much as you. Remember they are selling your information and are in competition with each other to do so. If the data is not correct that’s not good for a competitive business or you.
Your balances are too high
You said you are making above the minimum payment on an unspecified number of cards on which you are carrying balances. It’s nice that you are paying more than the minimum, but if the interest being charged is making your balances go up, you are losing points. Further, my guess is that if you paid off two cards but not others, you paid off the smallest balances first. This is also a great start, but short on point pluses.
Some accounts don’t appear on your credit report
Some lenders don’t report to the bureau every month. So, look for payments that should be there but are not. Remember, it costs the lender money to tell the Big Three you’ve paid a bill. Auto lenders may be quick to repossess a car if you miss a payment but may find little advantage in reporting a paid-off loan instantly. So, it may take a three-month period for that good news to get published.
You closed some credit card accounts
I must ask you about the two credit cards you paid off. Did you pay them off and close the accounts? If so, the utilization points in your score will have gone down because you lost the available credit from those cards.
This is one reason it is important not to close accounts if you can prevent it. These credit limit limes are tied directly to your credit utilization ratio, which counts for 30 percent of your overall FICO score. Try to keep credit cards open whether you use them or not – unless you are being charged a large fee for their use.
Here’s a tip: If you have two cards at the same issuer bank when you close one, ask to have the credit limit on the closed account added to your remaining open account. This keeps your utilization factor low while saving you an annual fee.
Your credit history has gotten shorter
If you have recently closed any other accounts it may have impacted your credit history. Credit history is how long you have had credit being reported in your name. In the world of credit reporting, older is better than younger. This is why it is harder for some young people to build up their scores. Also, you should know that some scoring models (VantageScore is a prime example) only count your open accounts in this calculation.
If you did close those credit cards, they will count in your credit history age (until they fall off of your credit report) for your FICO Score but not your VantageScore. (As a side note, your car note would not affect the utilization portion of your score since installment loans are given for a set amount of both time and money.)
What affects your credit score?
Now as to what is going on with your score. Let’s review with a brief FICO score primer. The five basic components in order of importance are:
- Payment history (35 percent)
- Credit utilization (30 percent)
- Length of credit history (15 percent)
- Credit mix (10 percent)
- New credit (10 percent)
In the last six months, you have taken steps that have most certainly impacted most, if not all, of these components. But you must also remember that what went on before has some bearing on your overall score.
We’ve already discussed payment history, credit utilization and credit history. The last two sections (credit mix and new credit) only account for 10 percent each, so they’re not huge contributors to your score. But that doesn’t mean they don’t count at all.
While the car payments aren’t a factor in utilization, they have a direct impact on the credit mix portion of your score. Lenders like to see that borrowers can handle both revolving credit (credit cards, etc.) and installment debt (car notes, mortgages, etc.) on a monthly basis. Once your car notes were paid off, you lost those points. You still have your good payment history on those notes and that history will stay on your credit reports for 10 years. But credit cards alone will not do much for you in the credit mix department.
You don’t say it in your question, but I am assuming you have not taken on any new credit in the past six months since you have been working toward paying off your debt. If I am wrong about that and you have had any hard inquiries over the last couple of years, that could also negatively impact your score, at least in the short term.
If you applied for credit that you did not receive, that will hurt you for long since you wouldn’t have the new available credit to balance out the impact of that inquiry. This is why it is important to have a fairly good idea that you will be accepted before you apply for new credit.
This is also an area where you should pay special attention when going over those credit reports. If someone has hijacked your information to open new accounts in your name, you will be able to see it on those reports. Then you will need to take the necessary steps to have those accounts removed, as well as protecting your identity. See what steps you need to take if you suspect identity theft.
I know that losing 100 points from your score feels like you have dropped off of a cliff, but before we end, let me congratulate you on taking control of your debt situation. For the most part, the steps you have taken will benefit your overall financial health in the long run. And that is what is most important.