Your ability to manage your personal finances is a fundamental foundation for financial stability and success. Effective budgeting and prudent investment decisions, among other aspects of financial management, are some of the elements that determine the direction of your economic future. Among these lies the credit score: a critical metric that might affect an individual's capability to obtain loans, credit cards, and even rental agreements.
A sudden and unexplained decline in credit score can be alarming but is often the outcome of identifiable factors. As long as the potential underlying causes of a decline are understood, it is easier to pursue proactive actions to correct or improve them.
Here are four common causes why your credit score may decline and what you can do to correct them.
Why Is Having a Good Credit Score Necessary?
A strong credit score is an important aspect of an individual's financial life. It serves as an indicator of trust for others-including lenders, landlords, and sometimes even employers, about the likelihood of this person repaying vast amounts of money. Its importance also comes into play since it directly determines whether you're accepted or rejected for loans, credit cards, or mortgages and the terms and interests that come with them.
When you have a good score, you may save thousands of dollars over the years via preferential rates, obtaining better premiums for your insurance and access to great financial opportunities. A good score often opens doors, even for renting a house, getting utility connections without a hefty deposit, and probably passing through some background checks for jobs.
4 Possible Reasons Why Your Credit Score Dropped
A sudden drop in your credit score can be alarming, especially if you’ve been consistently and diligently working to manage your finances. Understanding the reasons behind this decline is crucial and should be the first step towards rectifying the situation.
1.Missed or Late Payments
Payment history is a very significant factor that determines your credit score. It accounts for about 35% of your score, and even minor inconsistencies in maintaining payments can substantially impact it.
Here’s how to fix it:
Prioritize payments: Set up automatic payments or reminders to ensure timely payments.
Communicate with creditors: If you anticipate difficulties, contact your creditors to discuss potential payment arrangements.
Dispute errors: If there was an error in the late payment report, dispute it with the credit bureaus.
Using management apps: Consider using a credit score management app to track your payment history and receive timely alerts to avoid missed payments.
2.High Credit Utilization Ratio
The credit utilization ratio indicates the total amount of credit usage concerning the total credit available. A high ratio warns lenders and might signal increased dependency on credit. It's important to note that utilization is calculated per account and across all accounts combined. Keeping it under 30% is good, but under 10% is ideal.
How to fix it:
Pay down balances: Reduce outstanding balances on credit cards and other revolving credit accounts.
Request a credit limit increase: A Higher credit limit lowers the utilization ratio without adding to the spending.
Pay early: Pay your balances before the statement closing date to lower reported utilization.
New credit: Applying for new credit leads to a temporary dip in the credit score.
3.Recent Credit Inquiries
When you apply for credit, your score may be lowered down due to a hard inquiry on your credit report. Each hard inquiry typically reduces your score by five to 10 points, though its impact diminishes over time.
How to fix it:
Limit applications: One should avoid unnecessary credit applications, particularly within a brief timeframe.
Shop around strategically: If you're considering a significant purchase like a car or home, apply for multiple loans within a short timeframe to minimize the impact on your score.
Soft inquiries: Remember that checking your credit score yourself (a soft inquiry) does not affect your credit score.
4.Closing Old Accounts
Closing older accounts can undermine the length of your credit history and reduce your available credit, which are the demerits toward scoring.
How to fix it:
Maintain old accounts: Do not close older accounts, although you may not use them.
Consider a secured credit card: If you have no or negligible credit history, then a secured credit card may be helpful in building it responsibly.
Endnote
Understanding these common credit score drop reasons and proactive solutions helps you to improve your financial health and access better rates on loans and credit cards. You must remember that consistent, responsible financial behavior is the main ingredient in creating and maintaining a sound credit score.
