I have an ol’ buddy from high school – I’ll call him George. He’s a pretty smart guy with a family, kids and a career. To look at them from the outside, you’d think George and his wife are doing well. But it turns out that they are struggling. Poor money management decisions they made earlier in their marriage continue to haunt them both. They’ve been turned down for loans, and George has even been looked over for a job because of his lousy credit score. It’s a shame just how insecure their life – and their future – has become because of that stain on their records.
George and his wife are years away from retirement. They have a very long row to hoe. Being on their financial heels has kept them from being able to invest more and it’s tied up a lot of their capital as they tread water living one day to the next.
This unfortunate story is a reminder that there’s a lot more to retirement planning than knowing which investment strategies will help you meet your retirement goals, or understanding how the latest legislative changes may affect your retirement. Retirement planning is often just as much about exercising common sense and being aware of your financial situation.
Take your credit score, for example. You should know your credit score. It doesn’t only affect which credit cards you qualify for or what lending rate you might get for your auto loan or mortgage. Folks, your credit score can have a profound effect on your retirement. It’s imperative to get your spending and your debt under control today and to improve your credit score so that you can have a safe and secure tomorrow.
You may be surprised to find that your credit score is lower than anticipated. Sometimes that is an eye opener that you are not managing your debt effectively. And as you know, you should do your best to save as much as possible while you’re still in the wealth accumulation phase of your life. You can’t do that if you’re spending most of your income just to cover debt, as George and his wife are doing.
Having a low credit score means paying higher interest rates for things like insurance, mortgages, car loans, and credit cards. The difference in half a percentage point on a mortgage loan will cost you tens of thousands of dollars over 30 years. Spending more money to borrow money means having less to put in your 401(k), IRA or other retirement investments.
Having a low credit score can also hurt your earning potential. Some employers look at hiring candidates’ credit scores. Having a low score can mean the difference between a lucrative new position or being passed over in favor of a candidate with a better score. That’s what happened to George – he found out through a backchannel that a prospective employer walked away from offering him a potentially lucrative gig because of his poor score.
FICO, the data analytics company that produces the most commonly used credit score, calculates it based on several factors. The actual formula they use is strictly protected. But FICO reports that roughly 35% of your score is based on your payment history; 30% on debt owed; 15% on the length of your credit history; 10% on new credit; and 10% on types of credit used.
If you already know your credit score, then you’re ahead of the game compared to a lot of folks. According to a recent article I read, half of the adults in the U.S. haven’t checked their credit report or score in the last six months!
If you are one who does not check it, many credit card companies now include your credit score on statements, so that would be a good place for you to start. If yours don’t include your credit score, another option is to visit free websites that will provide that info, such as credit.com or creditkarma.com.
Most credit scores fall between 600 and 750. A credit score of 740 or better is considered excellent. The higher your rating, the better your ability to get loans with the most favorable terms. Let’s look at how you can improve your credit score, to help prepare you for the years to come.
First, know your credit risks. To do so, you can check your credit reports from TransUnion, Experian, and Equifax, the three leading agencies that track this information. You can order free annual credit reports from each firm by visiting the website www.annualcreditreport.com.
It’s tempting to order reports from all three at once, but some experts believe it’s a better idea to stagger requesting the reports from each agency once every four months, so you can keep a constant eye on what’s happening throughout the year.
Assess each report for potential problems. Look for identity errors, such as incorrect names, phone numbers, addresses, accounts belonging to someone with a similar name, or possible cases of identity theft. Also look for incorrect reporting of account statuses, such as a closed account reported as open, wrong payment dates, or the same debt listed more than once. The US government’s Consumer Financial Protection Bureau (CFPB) has suggestions for what to check. If you see any errors or discrepancies, contact the business that issued the account or the credit reporting company immediately.
Next, pay your bills on time. As I said, FICO uses your payment history as the most significant factor in determining your credit score. So, it’s crucial that you pay your debts on time, every time. That means living within your means. Make sure only to charge what you can afford to pay in full each month.
The next most significant factor FICO uses to determine your credit score is the amount of your debt compared to available credit. That means you should aim to keep your debt utilization – how much you use versus the amount of credit you have – as low as possible. Are you carrying a high balance on your credit cards? Make a plan that enables you to pay them off as quickly as you can afford to.
With all this talk of paying off credit cards and how balances can affect your credit score, it’s tempting to think you should go without a credit card altogether. But having a credit card and showing that you can use it responsibly will help your score in the long run. If you don’t already have a credit card, open one. The key here is to use it responsibly – live within your means, and charge no more than you can pay off each month.
A low credit score isn’t a black mark on your life that will haunt you forever, even in the case of George and his wife. Improving your credit score can be done but it takes time, perseverance, and patience. It also takes time for each of the agencies that track your credit report to catch up with what you’re doing. So, don’t expect any changes that you make to be reflected in your report overnight.
Know your credit score, do what you can to improve it, and keep track of your credit reports. It’s like I always say: Be vigilant and stay alert, because you deserve more.
Have a great week!
Jeff Cutter, CPA/PFS is President at Cutter Financial Group, LLC. A wealth management firm with offices is Falmouth, Duxbury, and Mansfield. Jeff can be reached at email@example.com.
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