COMPONENT 2 –
AMOUNTS OWED
30% OF YOUR CREDIT SCORE

Keep in mind that lenders do not know you personally, so they use your credit report and your credit score to gauge your financial character and whether they want to give you credit or not. Your credit score consists of five different components. The financial steps you take can hurt or help your scores and sometimes can hurt you in one component and help you in another. The one explained here with tips on how to improve your credit score is Amounts Owed, which makes up 30% of your Credit Score. This component reviews how much you owe right now.             

This component makes up a large portion of your credit score because lenders want to know how much credit you already owe before extending new credit to you. They want to ensure that you are able to make additional payments on a new credit account on top of the ones you are already currently making. Utilizing too much of the credit already available to you will lead to a lower credit score in this category. 

The five factors that this component encompasses include:

1. The Amount Owed on All Accounts
2. The Amounts Owed on Different Types of Accounts
3. How Many Accounts Have Balances
4. Credit Utilization Ratio on Revolving Accounts
5. How Much You Still Owe on An Installment Loan Compared with the Original Loan Amount

For 4 and 5, your credit utilization ratio in terms of how much of the available balance in your revolving accounts you use impacts your credit score; how much you still owe on your installment loans compared to what your income is does not directly impact your credit score, but is used by lenders to consider if they want to make additional credit available to you. 

STEPS TO IMPROVE YOUR CREDIT SCORE REGARDING AMOUNTS OWED

– Keep Credit Card Utilization under 30%.

This is one that a lot of people do not realize can hurt their credit score. For example, credit utilization ratio on a credit card, which is a revolving account, should be under 30%. If you use more than 30% of the available credit on your credit card, this will lower your credit score such as using more than $300 on a credit card with an available credit of $1,000. If you utilize more than 30% on a credit card, your credit score is impacted negatively because it looks as though you are borrowing too much from the amount available to you and that you are over relying on credit. 

– Make frequent payments on credit cards.

Some credit card companies report your utilization when your statement is generated, and some could be reporting your utilization at a random point in the month. For this reason, it is best to just always keep your balance on your credit card under 30% of the total available credit limit. A good way to approach this is to just pay off your entire credit card every time you get paid, for example every two weeks if you get paid biweekly. Also, if you make a large purchase on a credit card that you intend to pay off when you get paid, just go ahead and pay it off once the charge shows up on your credit card. The last thing you want when this happens is to get your credit utilization reported as over 30% even though your intention is to pay it off. 

– Increase your credit limits on revolving accounts.

Credit card companies will ask you to report your salaries annually because they will look to increase your credit limit if they think you can take on more debt. Similarly, you can reach out to them roughly every 6 months to have them evaluate your credit to increase your credit limit. An increase in credit limit will immediately lower your credit utilization. Be careful that they do not run your credit, but rather just review your account when they make this decision as a credit check would count as an inquiry and lower your credit score.
Having a collective amount of revolving credit above $50,000 increases your credit score.

– Make payments on installment loans.

This one can both help and hurt you. Being able to show consistent payments or that you have paid off a significant amount of money you have borrowed for an installment loan, such as a car or a mortgage, shows that you are a responsible borrower. When you finish making the final installment loan, it can lower your credit score temporarily, but it will recover because this also lowers your total amount owed.

– Consider debt refinancing.

Your debt grows based on the interest being charged on your credit accounts based on their Annual Percentage Rates (A.P.R.). One way to lower the amounts you owe is to consider lowering the amount of interest you are charged. For example, lowering your A.P.R. on a $100,000 mortgage loan from 10% to 5% on a 30-year loan would mean that on 10% you would pay around $216,000 in interest and on 5% you would pay around $93,000 in interest. The extra $123,000 saved in interest could be used to make additional payments on your debt lowering the total amount you owe faster. 

– Consider debt consolidation.

Taking multiple loans that have a high A.P.R. and consolidating them to a lower A.P.R. will help you the same way as debt refinancing. Some credit cards even offer a 0% A.P.R. introductory period for balance transfer where you move other debt into the credit card. They will however charge a one-time fee and will charge interest if you have not paid off the balance transfer amount before the end of the introduction period. A word of caution, credit card companies will specifically apply payments to new charges before applying them to balance transfer charges in an effort to try to get you to pay more interest. Also beware that this option should not be used to keep rolling over debt as you will have to pay a charge every time you roll it into a new account and rolling over debt may inevitably lead to amassing a larger total debt. Note for people with Student Loans: This option is considered helpful for Private Loans, but could be harmful for Federal Loans in terms of loan forgiveness because it can reset the number of payments made before loans are forgivable.

Other Credit Components