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It’s not an easy job to do a million things at once. You wake up every morning, try your hand at winning some bread, spend your money on the essentials – home, food, and bills, and with due diligence, pay off all your debt installments on due dates. Life is tough, but it could’ve been worse. One fine day, you pull up your credit report, and WHAM! It’s a bloodbath full of red marks and sudden blips on your credit report, which boils down to one question – why did my credit score drop? To answer the question of what went wrong, we must study the multi-faceted mechanism and understand how credit score works and what really affects your credit score so much that even getting a small loan feels like a burden.
What Affects My Credit Score?
Just like any other financial history tracker, your credit score defines your creditworthiness. It’s common knowledge that credit score gets better when you timely pay off your debts and goes downhill when payments are missed out on. There are some more factors that affect your credit score, let’s look at the most crucial ones, to begin with.
1. My Payment History
The United States economy runs on a credit system. With its population in trillions of credit card debt, finding someone with an exemplary credit score is like looking for a needle in a haystack. The biggest contributor to a credit score is your payment history, which involves how many installments you pay back in time and how many you don’t.
This contributes to over 30% of your FICO score, a measuring scale used by plenty of vendors. Even a single missed out payment can make your credit score take the plunge, while a regular payment mechanism like auto-pay leaves this worry out of the equation.
2. Amount of Debt Owed
The credit utilization ratio is measured as the amount of credit availed from your credit limit. With every adult having a credit card or two in their wallet, this credit utilization ratio can be decisive on what your credit score looks like. The amount of debt owed should not be more than 30% of your total credit limit, as it ghastly impacts your credit score.
Try keeping it below that figure and don’t miss out on the regular payments. If your credit utilization ratio is too high, keep reading, there’s a fix down below.
3. My Credit History
There’s no such thing as a ‘perfect credit score’. Even those who have never owned a credit card can’t simply start with a 700+ score. It depends on how old your credit history is, which basically is the average of all the times since you have taken some form of credit. Borrowers with a long credit history usually have a better credit score in comparison to people with less duration or no credit history.
Credit history is a double-edged sword that swings both ways. It’s best to use it in a wise manner and a strategy to maintain a long credit history is right down below.
4. New Credit Options
Whenever you go for a new line of credit, lenders run credit checks on your report. Every credit check leaves a blotch and there are certain hard inquiries for huge credit amounts like house mortgages. That is why it is advisable to rotate the lines of credit between house loans, credit cards, payday loans, and more. Paying them back on time leads to a green mark on the report.
While these might be four very crucial aspects that affect your credit score, it is almost always the case that even when borrowers keep a check on them – their credit scores still end up tumbling. So let’s get back to the specific reasons why your credit score drops in the first place.
Why Did My Credit Score Drop and How Do I Fix It?
1. You Missed a Payment
Starting with Captain Obvious, late payments are the raging cause of dropped credit scores. According to several credit bureaus, credit scores can drop by as much as 100 points in case of late or missed payments. By rule of law, lenders are not supposed to report a missed or late payment to credit bureaus unless it delays by 30 days or more.
How do I fix it? Check all your three credit reports – Trans Union, Equifax, and Experian– to look for any late or missed payments mentioned there. In case the information is not updated (e.g. you made up for the missed/late payment but it didn’t show up in the credit report), raise a request to the credit bureaus asap and they’ll fix it up, provided you present the proof of payment.
2. There’s a Derogatory Mark on Your Report
Derogatory marks aren’t that tiny missed-a-payment mark on your credit report. They stay on for long durations and it takes quite an effort to get them off. One of those credit score problems that only go away with the efflux of time, can be capped off as an issue that involves the borrower not paying back the loan in the agreed conditions. Here are a few pointers that constitute a derogatory remark:
- Late payments left unpaid for too long
- Declaration of bankruptcy
- Foreclosure of debts or assets
- Lawsuits or judgments against the borrower
- Tax lien
In a typical scenario, derogatory remarks remain on your credit report for more than seven to ten years. That’s a long time for improving credit reports, but as and when time goes by, your credit automatically builds back up, provided you don’t take up any more red flags and watch out for timely payments.
How do I fix it? In case any derogatory remarks are wrongfully imposed on you, making your credit drop, you can contest them in the credit bureau and expect them to fix it up. Apart from that, there’s no other way to fix up derogatory remarks, for time heals some wounds best. Just keep your existing creditors happy and make the payments on time.
3. Your Credit Limit Got Marginally Reduced
“I cut down my credit limit to reduce spending, yet my credit score dropped. How?” Well, the answer is in your credit limit, as its reduction led to an increased credit utilization ratio. This often shoots down the credit score by the same logic as the above point.
How do I fix it? If you are looking to curb up your spending, try transferring your debts to a balance transfer card that is specially made for clubbing credit card debts and transferring them on one card with a lower, much more stable annual percentage rate (APR).
4. You Just Closed a Credit Card
Wait, isn’t this supposed to be a good thing? You have one less debt trap to worry about? Not really. Remember how credit history was an extremely crucial factor for a good credit score? You canceling the credit card would trim down that part of your credit history where you held it for __ number of months or years. This reduces the credit history margin and as a domino effect, increases your credit utilization ratio. This double-trouble scheme is a hard one to finesse.
How do I fix it? Whenever closing your credit cards, start by closing the latest ones first. For instance, if you have three credit cards issued in Jan’2014, Mar’2017, and Dec’2019, start by closing the latest one and leave the first two intact for as long as you can.
5. You Used too Much Credit at Once
Remember when we talked about credit utilization rate and how it affects your credit score? While it’s easy to keep your credit utilization below 30%, it is extremely crucial to get it back to normalcy within the coming months if it spikes up. A sudden expense or a capital purchase might disrupt the balance, but luckily it won’t be the end of the world as long as you manage it in the next month. If you are in luck, it might not show up in your report as the credit report is only updated when a credit check request is put in by your lender(s).
How do I fix it? If you are checking your credit utilization ratio for the first time, then it might be a bit tedious to pay off at least so much of your debt that it takes it down below 30%. If it is a one-off spike though, then you can sit tight and pray for no credit checks for that month – keeping in mind that you bring it down in the coming months.
6. Applying for Lots of Credit at Once
It is often the case during contingencies that we tend to apply for funds from all four directions. You might be waiting for a credit card but you took a payday loan too, and then one from your bank, and you swiped the credit card as soon as it came in. Every single time you apply for credit, a credit check is run on your profile and it leaves heavy scars. This abruptly puts a negative mark on your report, pulling the credit score down.
How do I fix it? STOP APPLYING FOR MORE CREDIT! If the contingency is too hot to handle, upgrade your credit card to a larger credit limit and then use it to pay through emergencies, after which you can pay it back slowly. Don’t apply for more than one line of credit within a span of three months.
7. You were a Victim of Identity Theft
This is a rather scary occurrence and it happens more than you can think. There were almost 5 million identity theft complaints reported to the FTC in 2020 alone and it is a major reason behind the fall in credit scores. Identity theft is malpractice where an imposter borrows credit under your identity and when you get to know which room’s the smoke coming from, half the house is already purged in the fire. These scams are also used to exploit government benefit schemes.
How do I fix it? Keep a stern check on your credit report as you are entitled to a periodical credit report from all three bureaus. Apart from monitoring your credit, if it’s too late, make a recovery plan and contest your identity theft complaint with the FTC, they shall remove negativities from your credit report if your claims are deemed to be true. You can also try freezing your credit – but it restricts your credit file from picking up any more money.
8. You Just Paid Off a Loan
Paying off loans is a major life achievement in this capitalistic zeitgeist, but it is not the most preferred thing for your credit report. A formidable credit mix is a diverse one and while we don’t advise against paying off a loan that you wanted to do for so long, you could have a look at your credit mix and ponder over introducing a diverse line of credit to replace that loan you are about to pay off.
How do I fix it? You don’t need to have a trump-card collection of every type of debt. It can be left as is, or you can explore another option – pay off your loan and get a credit card with low APRs. Keep it regular on payments and withdrawals and your credit score shall get back afloat after a teeny plunge.
9. False Information on Your Credit Report
No matter how much automation takes over everything, there’s always a margin for error as someone out there is manually inputting data in the system. The false information might range from your social security number, name, or birthdate – for these components can contribute to wrongful debts under your credit report, pulling down your credit score.
How do I fix it? Found a false piece of information in your credit report? Report the error(s) to all three credit bureaus asap and request them to fix it up. However, claims like reducing the total credit amount don’t constitute false information.
Ready to Bring Your Credit Score Back Up?
There is a very high chance that one of these factors caused your credit score to drop. These sure-shot fixes always bring the right results to bring your credit score back up and most of these can be put to rest by turning on the auto-pay option for your debt payments. Now get that frown off your face, you know the answer to the question “why did my credit score drop?”.