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Everyone wants a good credit score - and no one likes it when it drops. But it’s an even harder hit when you’ve been working to improve your credit score and are doing the right things, but it drops out of the blue. A credit score can dip from good behavior. Sounds strange? Read on!
You’re doing everything right then bam!
When building your credit, particularly after a setback like bankruptcy or a debt spiral, you are working hard. You make payments on time, you don’t let high balances accumulate on your credit cards, and you don’t have any items in collections. So why the drop?
The most common culprit is you clearing off old accounts from your credit, old accounts dropping off, or paying off installment loans. First, let’s look at what factors affect your credit score to narrow down what dropped your score despite your healthy financial habits.
Credit score determiners
There are five components to your credit score. Changes to any of these can impact your score:
- Payment history – Making on-time payments is critical. Even one missed payment can drop your score significantly – by 100 points (or more).
- Credit utilization – How much revolving credit you carry compared to your credit lines matters – go over 20%, and your score will drop.
- Age of credit – Calculate the average age of your credit accounts by adding how many years each was open and dividing by the number of accounts. Older is better.
- Credit mix – Having several types of credit boosts your score (but not a lot). There’s installment (mortgage, car loan, student loan) and revolving credit (credit and store cards).
- New credit – Occasionally opening new accounts can boost your credit score, but you don’t need to do it often (and shouldn’t).
Knowing what factors affect your credit can inform your choices and explain why your credit score rises or falls.
Paying off debt is good, but your credit score might drop
When you pay off debt such as making your last installment on a vehicle or student loan, it’s certainly an accomplishment. Unfortunately, it can drop your credit score. If that was your one installment loan, your mix of credit would drop. It also represents an account that was active and is now inactive which can make your score drop. But don’t worry, it will rebound!
Housecleaning older accounts can decrease your score
You might have an older secured card you want to close to recover your deposit. Or perhaps you have an older unsecured account with a high interest rate you don’t like. Closing an old account can drop your average age of credit and your credit score. Losing that credit line can also drop your credit by increasing your utilization if you are carrying any balances.
Your credit score bracket changes
Part of how the credit bureaus rank you is by comparing you to other people in similar brackets. When you move from one credit category up to the next better one, your score might initially drop because you’re judged by harsher criteria. The same goes if you had a bankruptcy that drops off your report because you jumped out of the less-favorable bankruptcy-filer category.
You shouldn’t avoid good behavior like paying off a loan just because it will drop your credit score in the short-run. But some choices like closing old accounts should be carefully weighed before you act to protect your score from drops, particularly if you’re trying for a mortgage or car loan and need the best possible credit score.
When you’re rebuilding your credit score after a financial crisis or bankruptcy and aren’t sure what to do next, check out Credit Score Keys.