At times, income can be an all-encompassing thought. It’s specially top-of-mind if you’ve switched to a new job that’s come with a pay decrease in favour of a better work-life balance, or you’ve taken a pay cut at work to avoid a layoff. While this will undoubtedly affect your personal life and your financial health, you’ll be pleased to know that it won’t directly impact your credit score.
Your score will only be impacted if your reduced income has seen you struggle to make timely payments on your credit accounts.
So if your income doesn’t directly affect your credit score, then what does? Read on to find the factors that impact credit, which will also answer the big question about your credit score: how is it calculated?
Why Is It Good to Have a High Credit Score?
A high credit score may mean lower interest rates on new lines of credit and loans, better opportunities for renting property, lower insurance rates, insurance premiums, and to name just a few perks. In a sense, a high credit score improves your overall financial help, allowing you to have a comfortable life without dealing with too much financial stressors.
Keep in mind that these are generalizations and that specifics will vary based on the lenders you speak with.
The Age of Your Credit
How long you’ve held credit accounts will impact your overall score. If your historied accounts are in good standing, this will reflect positively. Generally, the age of your credit accounts for 15% of the calculated total.
Just remember that the longer you have been using credit, the more it increases your credit score. This means that it is wise to start building your credit now. For sure, you will enjoy more perks in the future.
On the other hand, having newer accounts can lower your score. Still, this is not too much to worry about since this is somewhat minor compared to other factors like credit utilization and payment history.
High Debt-to-Credit Ratio
Debt-to-credit ratio or credit utilization rate is a factor you should highly consider in establishing a high credit score.
Using your credit card and making sure that you pay it off monthly is good for your credit. It shows responsible behaviour.
If you’re maxing out your credit cards to the extent of their limits on a regular basis, this can indicate poor money management and questionable financial decision-making, making you appear like a potential risk to some lenders and banks. This serves as a reminder that should always be mindful of the amount you’re using on your credit cards relative to your credit limits at a certain period.
To calculate your debt-to-credit ratio, divide you total available credit amount (in all your accounts) by the total amount of debt you have on those accounts. Lenders prefer to see a ratio of 30% or lower. Note that higher ratio means higher risk for lenders.
Financial Extremes and Hardships
If you’ve declared bankruptcy, you’ve had liens against a property, or you’ve had past debts handed to a collection agency, your credit score will be negatively impacted for several years afterward — though different lenders will respond to and navigate these events differently based on their independent terms.
As much as possible, be mindful of your expenses by tracking them. Always maintain a good payment history, avoid debts, or keep amounts owed low, and don’t open too many credit accounts.
A Gamut of Credit
Having a range of credit in good standing may positively impact your score. It shows creditors and lenders that you can navigate your finances and juggle multiple accounts with ease.
Credit scores are calculated using a variety of factors, such as payment history, amounts owed, length of credit history, and credit mix.
- Payment History: Lenders investigate your history of paying bills on time and in full amount. It covers the 40% of your credit score.
- Amounts Owed: It affects your score by 30%. It looks into your debts, credit utilization rate, and the percentage of your available credit.
- Length of Credit History: The preference of lenders is a long credit history that shows your responsible use of your credit. It affects your credit score by 10%.
- Credit Mix: Lenders also like to see the existence of your different credit types like credit cards, mortgages, and loans. It also affects your credit score by 10% to 15%.
So, pay your line of credit, credit card, and mortgage on time, and make more than the minimum payment when possible. This will save you interest and can improve your score.
Incorrect Reporting
An error may sometimes appear on your credit, which can poorly impact your score. Make sure that you regularly check your credit score with Equifax, Transunion, and Experian, the three major credit bureaus in the United States. They have unique offers in helping card holders better understand their credit, as well as protecting it against fraud.
Report instantly to any of the three bureaus if you noticed threats to your credit. You may also do precautionary measures by constantly reviewing your information and monitory your account history.
The Bottom Line
While your income won’t directly impact your credit score, making late payments (or no payment at all) on credit accounts, experiencing a financial extreme, having a short credit history, or no credit history whatsoever will. Even if your salary is low, as long as you are responsible in managing your accounts and lifestyle, you don’t have to worry too much.
It is also suggested to start establishing a good credit score now since it takes time. Surely, you will reap what you sow in the future.
If your income has dropped recently and you’re concerned about your credit score, talk to a financial advisor and learn how to keep your credit in good standing — it can be done! They are professionals who are experts in guiding clients’ decisions around financial matters, such as personal finances, investments, and loans. If you are not confident in handling your finances, a financial advisor would be truly beneficial.
