For many people, credit is black magic. They know it exists and affects their financial health, but they’re afraid to dive in and learn what they need to know.
This leads to a lot of confusion. So many people operate on information they get from a friend or family member, who probably got that information the same way, and eventually everyone is parroting advice that may be less-than-accurate – or just downright false.
Don’t let secondhand knowledge or misguided facts lead you astray – read ahead for some of the most common credit myths.
Consumers have one credit report
People typically talk about credit in terms of a report, but it’s actually reports. There are three credit agencies that collect credit data – Equifax, TransUnion and Experian. While they all use the same method to compile your report, there are almost always small differences. FICO then collects information from each bureau to calculate your score.
You have the option to check your report from each bureau for free once a year. Remember that a company or agency running a credit check on you will only pull one report, so it’s important to monitor all three just in case.
I should open a new loan to improve my credit score
One of the major factors that goes into a credit score is the variety of credit you have. In general, credit bureaus and lenders like to see a variety of loans and lines of credit. This makes some people think that they should open an auto loan just to diversify the types of credit they have.
However, this is only a tiny part of what determines your credit score – and truthfully, has little bearing on your overall score. It’s 100% possible to have an excellent score without having three different types of loans, and far more likely to run into a situation with your new loan that could damage your score.
I should always keep a small balance on my credit cards
This is a persistent myth that is responsible for thousands of unnecessary interest fees. The idea is that lenders don’t like seeing you pay off a credit card balance in full, and that you should always keep a small balance on the card.
This is patently false. As long as the statement has posted with a figure more than zero, it’s ok to pay off the entire balance. What credit bureaus don’t like is when you pay off your credit card before the statement posts. That’s because it reports to the credit bureau as a zero balance and that you didn’t use the card. That doesn’t help your credit score or show that you know how to properly manage credit.
“You don’t have to use a credit card every month or carry any balance to improve your credit score,” said Eric Rosenberg of Personal Profitability. “An active account with a zero balance and a consistent on-time payment history is all it takes for an account to boost your score.”
It’s ok to have a high balance on my credit card
A lot of people assume that as long you pay off the entire balance on your credit card, it doesn’t matter if you charge $500 or $5,000. But how much credit you utilize has a significant bearing on your credit score.
Why? Credit bureaus want to see that you don’t need to use your entire balance. If you have a credit limit of $4,000 and you routinely hit $3,500, that makes them think you can’t afford to pay for those expenses in cash.
To minimize the effect, you can call your bank and ask for a higher credit limit. If they don’t approve your request, you can apply for a credit card with a higher limit. Or you can simply start using your debit card for more purchases. Aim to only use 30% of your credit limit or less; anything more will negatively affect your credit score. That percentage matters for both your total credit utilization and the individual ratio on each card.
Bankruptcies and collection stay on my report forever
When you’ve declared bankruptcy or had a bill go to collections, it’s easy to think your credit is doomed forever.
Not only is this not true, but the older the judgment, the less impact it has on your score. A bankruptcy from three months ago has much more weight on your score than a bankruptcy from three years ago.
Bankruptcies fall off between seven to 10 years depending on the type of bankruptcy you filed. Collections also fall off after seven years.
If you’ve got some negative marks on your record, don’t despair. As long as you make payments on time, keep your credit utilization low and avoid opening too many new accounts, your score will improve. There are hundreds of positive stories of people getting approved for mortgages even with a bankruptcy on their record.
The consumer isn’t liable for mistakes made on credit reports
According to the Consumer Financial Protection Bureau, about 20% of people have some sort of mistake on their credit report. That includes a debt they’re not responsible for, a late payment reported incorrectly or the wrong balance.
Unfortunately, until you notify the credit bureau and ask for the mistake to be removed, it will continue to impact your credit score. That’s why it’s vital for users to track their credit report every so often to make sure there aren’t any negative marks.
For example, one day I checked my credit score to see a medical bill that had been sent to collections. I was so confused and called the hospital to see what went wrong. They told me they had sent me a bill back in August that I had never paid, but I had never received the bill since I was moving out of state that month.
They apologized, and I paid my bill over the phone. A few weeks later I checked my credit score and saw that they had removed the mark on my credit score.
How much you make affects your credit score
Your credit score is only a reflection of how responsible you are with credit, but some people assume that how much you earn also affects your score.
“One of the biggest credit myths is that your income affects your credit score,” said Lee Huffman, travel blogger at BaldThoughts.com.” That is wrong because there are no factors where making more or less money directly impacts your score. However, if you don’t make enough money to cover your spending, your score will drop if you have late or missed payments or your utilization ratio increases because you’re not able to pay off your credit cards each month.”
Don’t worry about your income as it pertains to credit, unless it’s affecting your ability to save or pay off debt.
Closing accounts will improve my scores
This myth is partially true. If you close a recent account, it could bump up the average age of all your accounts. If you close an older account, it could drag down the median age of your credit.
The older your credit history is, the more reputable you look to other lenders. If you close one of your oldest accounts, you could really affect your score. However, this only makes up 15% of your credit score. If the other aspects of your score look good, then you shouldn’t have any problems earning a high credit score and a spotless credit report regardless.
You have to go into debt to build credit
Not only is this commonly-held idea false, it’s incredibly harmful. There’s nothing in any of the credit scoring metrics that rewards debt, and some kinds can actually damage your score. Debt is like quicksand, and taking on a little can often lead to much, much more. Once you’ve begun the downward financial spiral, it’s hard to pull out of.
That’s not to say debt is inherently bad – but it should be avoided if possible. There are plenty of good reasons to go into debt – paying for a college education, owning a home, starting a business – but building your credit is not one of them. Debt is a heavy burden to take on, and it should always be treated as such.
Poor credit prevents you from getting a loan
This one isn’t a myth, but maybe it should be. You can absolutely qualify for a loan when you have a low credit score – but it’s not going to be the kind of loan you want.
Loans offered to people with poor credit often have higher interest rates, and typically require some kind of collateral or money down. Often, predatory loan companies will target down-on-their-luck consumers with offers that boast high loan amounts – and sneak high interest rates into the fine print. This would be easily avoided for someone with credit experience, but a dangerous trap to fall into for someone who is inexperienced or financially illiterate.
The bottom line
With so much misinformation about credit, it’s important to fact check anything you hear, even if it’s from a seemingly trustworthy source. Credit bureaus, government agencies and credit card companies often have correct information, so start there. Remember, the wrong info can be used against you, so be skeptical any time you hear something that sounds too good to be true.