Does My Income Get Calculated Into My Credit Score?
by Nik Tsoukalis, President
So you're shopping for a new car, doing your due diligence by pricing out different makes and models and visiting several different dealerships to see who can give you the better deal. Finally, you find a model you really like on the lot and a dealer that's really willing to work with you. So, it's time for the car salesman to do his due diligence. He runs your credit score to make sure you're a qualified buyer for the auto company's financing.
And that's where the problem arises—your credit score isn't good enough.
"Dang," you think. "If only I made more money. Then I could afford this new car."
But contrary to what many people believe, your salary has absolutely nothing to do with your credit score.
The Income/Credit Relationship
Simply put, there is no relationship. Just as we've already established, your income doesn't have any impact on your credit score. That's because a credit score is calculated based on credit reports, and these credit reports don't contain any income information. So yes, even professionals who earn a very comfortable salary can be in dire need of credit repair. Just do a quick Google search to see all the financial trouble many celebrities have gotten themselves into as a result of poor financial planning and lavish spending.
Now with all this being said, the U.S. states with higher median incomes also tend to have higher credit scores. But this isn't because salary and earnings are factored into it. This is simply just because having more money means that you can qualify for a great credit limit. Here's why: The two most important factors that are used to makeup your FICO score are payment history and debt usage. So no matter what your credit limit is, you want to keep your balance below a 30 percent utilization rate. (For example, if you have a credit limit of $2,000, keeping your balance at or below $600 would be ideal for a best case credit score.) Now obviously the more money you have, the higher the credit limit, meaning that'll you'll likely have more spending room to keep within the 30 percent utilization rate.
How's My FICO Score Calculated?
Now that we've established that earnings has no bearing on the overall makeup of your credit score, you might be wondering just how your credit score is calculated in the first place. It's calculated based on five different pieces of data: payment history, amounts owed, length of credit history, new credit and types of credit used. Both positive and negative information are factored into the credit score. Here's a closer look:
- Payment history: This accounts for 35 percent of the FICO score and is the most important factor in a credit score. This tells a lender whether or not you've paid credit accounts on time. If you've done so, then this aspect of your credit score will reflect favorably. If you haven't, then it won't. In terms of people who need to repair credit, this is a great way to start — pay all bills on time.
- Amounts owed: This accounts for 30 percent of the FICO score. But contrary to what many believe, just because you owe money on a variety of credit accounts doesn't mean that your score will suffer and you'll be considered a high-risk borrower. However, it can mean that you're overextended and thereby more likely to make late payments or miss payments, which goes back to the payment-history aspect of your credit score. So owing money on several credit accounts isn't necessarily bad, but owning a large sum of money on such accounts can hurt your overall credit score.
- Length of credit: This aspect accounts for 15 percent of your overall credit score. The bottom line is that the more credit history you have (and favorable credit history, to boot), the better it is for your score. This takes into account how long your accounts have been established as well as when your most recent credit account was established.
- Types of credit: Accounting for 10 percent of your overall credit score, this aspect will factor in the different types of credit you have taken out, such as credit cards, retail accounts, loans, finance accounts and mortgage loans.
- New credit: The final category, new credit, accounts for another 10 percent of the overall credit score pie. Specifically, this takes a look at people who have opened several new credit accounts within a short period of time. For those without a lengthy credit history, this can raise several concerns for lenders.
How to Repair Credit
So now that we've established that salary has no impact on one's credit score and have reviewed the various aspects that make up a credit score, just how can you repair a poor score?
- Reduce debts: While salary doesn't factor into a credit score, it can help you improve your credit score by paying down your debts to make you look like a more favorable borrower.
- Pay bills on time.
- Monitor your credit score over time: Contrary to what many believe, your credit score won't take a hit if you pull it frequently to check it. So as you're repairing your credit, don't be afraid to monitor your progress.
- Seek help: If you don't have a good plan in place, consider contacting a credit counselor who can professionally advise you on ways to improve your score.
The author is solely responsible for the content.