Did you know you shouldn’t have just one type of credit account? Read on to learn how different types of credit can help boost your FICO score.
Bad credit plagues lots of Americans: almost a third have scores under 601.
Even if you don’t have terrible credit, a low or average credit score can get in the way of your goals. When your credit score isn’t in the good or excellent range, it’s hard to get a loan, rent a home, or even take a trip.
Did you know that diversifying your credit can help you build your score up? Different credit accounts can impact your score, and you can use this knowledge to your advantage.
In this guide, we’ll teach you what you need to know about different types of credit and your credit score. Read on — this will help you get and keep the score you want!
The Factors That Affect Your Credit Score
First, let’s take a quick look at the overall factors that have an impact on your score.
Your credit score is created based on five different aspects of your financial life. Although there are a few different methods for making a credit score, the five-step FICO score is the one that the vast majority of financial institutions use.
These five factors create your score:
Credit history length
Diversity of credit
Most people already know about some of these factors, such as your payment history. Making regular on-time payments will definitely help your credit score.
However, it’s less common to understand the way your credit mix, or diversity of credit, impacts your score.
Types of Credit You Can Use
When working to develop a mix of credit types, what are your options?
Let’s take a look.
1. Unsecured Credit
Unsecured credit doesn’t require you to offer up collateral. For example, ordinary credit cards are a type of unsecured credit, as are personal loans.
2. Secured Credit
With secured credit, the lender requires collateral in order to give you a loan.
These types of credit include car loans, home loans, and much more. If you can’t pay back the loan, the lender will use the collateral to get the value back.
These options are often ideal for people with low or no credit scores since secured loans are easier to qualify for.
3. Installment Credit
With installment credit, you’ll make regular fixed payments, such as when paying a mortgage. You get all the money up front, and pay it back in installments, plus interest.
4. Revolving Credit
On the other hand, revolving credit lets you take the money and pay it back as you need to. If you use a credit card, you’re using revolving credit.
Although there are a few other, less common types of credit, these are the main ones that you can use for diversifying your credit mix.
How Different Types of Credit Impact Your Score
Next, let’s take a look at exactly how your credit mix affects your FICO score.
The mix of credit accounts for only 10 percent of your score, so it’s not the most important factor. Still, having a variety of credit types can help bump your score up.
Why do lenders care about your credit mix? The ability to successfully navigate different credit types and pay them off shows that you’re a responsible borrower. Paying off a variety of loans is easier than simply handling a single credit card, for example.
This also shows that you’re financially stable enough to get approved for a number of different credit types, which is another sign of responsibility.
How to Boost Your Score by Diversifying
With that in mind, should you open up a few new accounts so you can raise your score?
Generally speaking, the answer is yes — as long as you really need those new accounts. But if your only goal is raising your credit score, it’s probably not worth it to take on new kinds of credit.
If you open new accounts, you should actually use the credit, not just ignore them and wait for your score to go up.
Getting the Most from Your Diverse Credit Accounts
If you do plan to use some new kinds of credit and want to raise your FICO score at the same time, here’s how to strategize for the best possible results.
1. Get Your First Credit Card
If your credit mix doesn’t involve a credit card, this might be the perfect time to get one.
Look for a low-rate card, and check for valuable bonuses to sweeten the deal. Some cards have cash-back bonuses, 0 percent APR introductory deals, and other perks.
There are also some types of cards you should avoid. Bonsai Finance warns against using certain company credit cards, for example, because they won’t have your best interests in mind.
To use your credit card wisely, keep the balance low and pay it off in full each month so you don’t get charged interest.
Can’t find a credit card that you qualify for? Try a secured card to start out with.
2. Remember Your Credit Utilization
As you open and use new accounts, don’t forget that credit utilization also impacts your score.
This means you should keep your use of credit low compared to the overall available credit. Don’t get so excited about the new accounts that you quickly rack up high charges.
3. Choose Lenders Wisely
Diversification is great — unless your lenders aren’t great.
As you work to add to your credit mix, select lenders that offer good terms and rates. Diversification won’t work well if you’re suddenly paying super-high fees and interest rates, making it harder to keep up with your payments.
In fact, some lenders can actually hurt your score, so only choose the most trustworthy companies to borrow from.
Ready to Get the Credit Score You Really Want?
Don’t settle for a low credit score! Using different types of credit, and following the advice in this guide, will help you build your score up and open new possibilities for your future.
As you learn to use your credit mix carefully, you may also find yourself strategizing about the other aspects of your financial life. Need more money to meet your goals? Check out this guide!