Credit Score Drops can be scary. Well, here’s why it drops and how you can prevent it.
Credit scores can be a tricky thing to keep track of, especially when you are not a huge fan of numbers. However, it is important that you do keep track. There could be many things that you must know because apart from saving you the trip to the bank, it also enables you to timely detect any delinquencies.
Thus if you have ever asked yourself ‘why did my credit score drop for no reason this article is for you. Keeping a credit score check is beneficial for your personal finance matters and should be a mandatory part of your financial planning.
Before diving into the reasons for your credit score drop, let’s discuss what a credit score is.
What is a Credit Score?
A credit score is a number determined by credit reporting agencies. It falls between the ranges of three hundred (300) and Eight Hundred and Fifty (850). The perfect and acceptable credit score across financial institutions may differ slightly depending upon the reporting agency concerned. However, in general terms, a credit score of above 580 is considered fairly good.
Your credit score determines your creditworthiness. In simple terms, a credit score is the main financial component that determines whether you should be lent a loan or not. For example, if you are applying for a student loan, your lender will first see if you have a good credit score – in order to come to the conclusion of whether you can repay the loan or not.
Moreover, another common example is that of a mortgage. If you apply for a mortgage loan your lender will first consult your bank to check if you have a good enough credit score.
Your credit score is important for almost all of your financial matters, and a credit score drop might adversely impact your financial reports. Here are the elements that are taken into consideration while calculating your credit score;
- Payment history
- Length of credit history
- New credit
- Debt
- Total number of accounts
These factors are always taken into account by financial institutions. Moreover, keeping a credit score check is essential because the score is calculated taking into account everything that concerns your financial transactions.
Now let’s talk about why you don’t have a perfect credit score.
Why Did Your Credit Score Drop?
The factors stated above all go into determining your creditworthiness. Financial reporting agencies utilize various models to determine the score associated with your financial activity. These scores can be affected by all the factors that go into calculating the credit score. From the smallest of things like how many accounts you own to bigger things like how regular and responsible you are with loan repayment, financial institutions take everything into consideration.
Here are more reasons why your credit score might have dropped.
One: Closing An Old Bank Account
As confusing as it sounds, when you close an old bank account it leaves an adverse mark on your credit score. Here’s how this complex process works;
When you close an account means that you now have less credit available at your disposal. This means that your spending limit has been reduced to one or more other cards that you own. Thus, if you just close an account and do not cut down on spending via the other cards, it goes to show that you are somehow exceeding your credit card limit.
Another reason why closing a credit card might affect your credit score is that it lessens the length of your credit history. The older the account that is closed, the more the length of credit history is lost.
You exceeding your spending limit as well as the average length of your credit history are calculated while assessing your credit score. Now that you have a credit card closed, it will make your score drop.
Two: Opening Up Or Applying For Multiple Lines Of Credit
You could badly affect your credit score if you are opening up or applying for multiple credit card accounts. This way, any lender would perceive you as a risk.
Thus, if it is necessary to run multiple lines of credit, make sure that you do so while keeping in mind the various recommendations from credit reporting agencies. Credit bureaus commonly suggest having a mix of credit cards and loans aimed towards different things.
While it is important for student loans and other loans, such as those taken for mortgage and autos, to have more than two lines of credit, try keeping as few as you can. The credit bureaus also suggest that it is fine to have a sufficient number of credit lines as long as you are not applying for new credit.
Another reason you should not have many credit lines is that it lowers your FICO credit score.
Related: What is New Credit?
Three: A Reduction In The Credit Limit
You usually have a credit limit that you follow, and as per that limit, your credit score is analyzed. However, when your credit limit is reduced your utilization rate jumps up. For instance, if you spend 2000 USD out of an 8000 USD limit, your utilization rate would be twenty-five (25) percent. Now if the credit limit is reduced from 8000 USD to 6000 USD, your utilization rate would exceed approximately thirty-three (33) percent. This is a huge change, and it is bound to take a negative toll on your credit score.
One thing you can do to keep the lowered limit from negatively impacting your credit score is cutting off spending at the same rate.
Four: Your Credit Report Has A Derogatory Remark
When the credit bureaus assess your credit history, they take into account each and every factor. This also includes any remark that has not been in your favor due to any factor. One of the largest determining factors is if you do not pay a scheduled loan payment in time.
There are many reasons due to which your concerned financial institution might have left a derogative remark on your report. It includes late payments, bankruptcy, lawsuit, tax lien, or a judgment. However, a derogative mark is not limited merely to these components. These marks also stay on your record for a long time, thus making your credit score drop.
Five: There Are Errors On Your Credit Reports
While it is important that you keep yourself from making mistakes that may lead to a credit score drop, it is also important to keep an eye on errors. After all, anyone can make mistakes – so can your lenders.
Thus, make sure that you regularly check your credit reports as well as other financial reports for errors.
How To Keep a Perfect Credit Score – Key Takeaways
A credit score drop is the last thing anyone would like to witness, especially in these unprecedented times. From closing an account to opening a new one, anything can mess with your score. However, there are many practices via which you can keep your desired perfect credit score.
Here are some tips to follow;
- Don’t miss scheduled payments
- Correct any mistake that you notice on your credit report
- Take all the precautionary measures to stay safe from identity theft
- Research before you rush into opening up or closing a credit line
Also Read: 10 Credit Card Mistakes That Might Damage Your Financial Wellbeing
