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A credit score is a consumer’s ticket to credit products. An excellent score invites credit products at the most favorable terms. Why are the terms so important? Consider the cost of a single percentage point on a mortgage interest rate. Borrowing $200,000 at 4 percent will cost $143,739 in interest charges over the life of the 30-year loan. The same loan at 5 percent will incur $186,512 in interest charges. A borrower who qualifies for the better rate will save nearly $43,000!

Earning a top score that will unlock the best terms is a simple matter, and it can be done by consumers at all income levels. Here’s how.

1.      Use credit products

You can’t establish credit by avoiding it. A credit score is based on your ability to have and handle credit responsibly, and there’s simply no way to prove it other than by doing it.

Seek out appropriate credit products for life’s different needs. Part of your score is based on your credit mix. People with top credit scores use a healthy variety of credit products that may include credit cards, auto loans, mortgages, student loans and other financing.

2.      Pay bills on time, always

Paying bills on time is a really easy way to get a jump on a great score. Good or bad, payment history is the biggest contributing factor to a consumer’s credit score. Thirty-five percent of a FICO score is based on payment history, and in a VantageScore, payment history is the only factor singled out as “extremely influential.”

For both types of score, the degree of lateness also matters. A payment that is 120 days late causes far greater damage than a payment that is 30 days late. Also, multiple late payments hurt more than a single incident. And the ding to your credit score diminishes over time – recent late payments hurt more than old ones.

3.      Keep debt low

In a FICO score, debt utilization is second only to payment history in its influence. Thirty percent of a consumer’s score is based on the amounts owed in relation to the amount of credit available. In simple language, that means the consumer should have open lines of credit available but not use them much.

For a consumer with more than one credit card, if any one of them is maxed out, the score will suffer. Experts disagree on the “safe” level of debt, recommending balances of up to 20, 30 or even 50 percent. Credit expert John Ulzheimer says that people with the highest FICO scores keep debt utilization under about 7%. FICO does not publicly stand by any exact number, but keep it as low as possible. Rest assured that if you achieve 7% or lower, you’ll be in excellent standing.

4.      Keep accounts open

Open accounts can bring down overall debt utilization for consumers who carry balances. Consider a consumer who has $900 in debt on a credit card with a $1,000 limit. Utilization is 90%. But if the consumer’s debt is spread among three credit cards that have a combined credit limit of $2,500, overall utilization on the same $900 debt is only 36%.

On an ongoing basis, open accounts also boost average account age and contribute to a healthy credit mix. (Closed accounts also factor into average account age and credit mix, but eventually drop off the consumer’s credit report, whereas open accounts remain indefinitely.)

No magic number of years will put a consumer into 800+ credit score territory, but anecdotally, top scorers report an average account age of six to twelve years, and an oldest account age of about twenty years.

5.      Avoid new applications for credit

New credit applications can hurt in a couple of ways. First, each time you apply for new credit, the creditor looks at your credit file. This is called a “hard inquiry” and will temporarily lower your score by a few points. Second, new accounts bring down the average age of all of your accounts, and older is better where credit is concerned. Once you’ve got the credit products that meet your needs, don’t apply for new products unless you really need to. It’s true that a new credit account might bring down your overall debt utilization, but for people who carry little debt anyway (again, very important), the benefit is minimal.

What’s your formula?

If you’ve achieved a credit score of 780 or higher, we’d love to know your strategy. Tell us about it in the comments on our Facebook page!

Posted in Credit Score