Your credit score is a crucial part of your financial fitness, and that’s a fact. This three-digit number is used to measure your chances of gaining approval for financing for car loans, credit cards, personal loans, mortgages and more.
Additionally, your credit score helps lenders determine your creditworthiness and the interest rates you’ll be paying on financial products once you’re approved.
Unfortunately, having a good salary isn’t always enough to secure your chances of loan or credit approval. There is a wide range of factors that contribute to a good credit score, and knowing these factors will help you prevent a drop in your credit score in the future. But exactly why did your credit score drop? And what can you do to improve your credit score once it dropped?
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Here are some reasons why your credit score drops:
- You made a late payment
- Your credit utilization rate is too high
- You recently applied for obtained or applied for a new line of credit
- You cancelled a credit card
- There’s an error on your credit report
- You may have been a victim of identity fraud
Let’s dive deeper into the reasons why your credit score may have dropped.
Six Reasons why your credit score dropped
You made a late payment
Financial institutions want to lend to a customer who is reliable at making their monthly payments. That’s why when you make a late payment, whether it’s only three days or thirty days late, your credit score will be affected. If you make a late payment, you’ll be charged a late fee, your interest rates may eventually rise, and it will decrease your credit score.
Your credit utilization rate is too high
Your credit utilization rate measures your outstanding balance against your total credit limit. The general rule is the lower your credit utilization, the better. The standard advice is to keep your credit utilization below 30% of your available credit so that your utilization rate doesn’t hurt your credit score.
For example, suppose you have a total credit limit of $2,000, and you owe a balance of $1,900. In that case, you are utilizing 95% of your available credit. This suggests to lenders you aren’t managing your credit accounts responsibly. You may be at risk of missing a payment, which is why they penalize your credit score.
With a $2,000 limit, try to keep it around $600, or about 30% of available credit. Try to keep your credit utilization rate as low as possible to avoid a credit score drop.
You recently obtained or applied for a new line of credit
If you apply for credit, your credit score will be affected regardless of whether you’re approved or denied. In fact, you can lose a few points on your credit score for even just applying for credit. So, if you apply five times for credit, each time, your credit score will decrease.
It’s important to research all acceptance requirements and ensure your credit score is adequate before applying for credit. Otherwise, every time you apply, your credit score will get worse. And since your credit score is decreasing with each new credit application, your chances of approval may also decrease.
You cancelled a credit card
Your total credit limit is a combination of the credit limits on each credit card you own. If you cancel a credit card, you’re lowering this limit and increasing your credit utilization rate.
For example, if you have two credit cards with a credit limit of $1500 each, your total credit limit is $3000. Let’s say you owe a balance of $900 – this is at the recommended 30% credit utilization rate. But let’s say you decide to cancel a credit card, and you now only have one credit card with a total limit of $1500, and you still owe a balance of $900. Now, your credit utilization rate is at 60%, which is way above the 30% recommendation. If you recently cancelled or closed a credit card account, this may be a reason your credit score has been impacted.
You reduced your credit limit
If you recently chose to reduce your credit limit on an active card, this could have a negative effect on your credit score as well. This is because a lower credit limit will cause your credit utilization ratio to rise even if your spending remains the same.
For example, if your previous credit limit was $10,000 and you typically spent $3000 per month on your card, your credit utilization ratio would be sitting at about 30%, which is perfect. But if you reduced your credit limit to $6000, your ratio would then be 50%, which is too high. This tells lenders you may be spending beyond your means and could be a credit risk, which would affect your overall credit score.
There’s a mistake or error on your credit report
An error or mistake on your credit report may be costing you valuable credit points. There are many reasons why there is a reporting error on your account. For example, you may have made a payment on time, but it was reported as late, a closed account was left open, or debt that has already been paid off in full is still showing on your account.
Sometimes, if your personal information on your credit report is incorrect. Anything from a wrong mailing address, misspelled names, or the wrong date of birth, a reporting error may have occurred. To ensure that your credit report is correct, it’s essential to check your credit report regularly with the credit bureaus TransUnion & Equifax.
You’ve been a victim of identity theft or fraud
Generally, when your credit score decreases, it’s mainly due to your own credit activity. But in a worst-case scenario, you may have been a victim of identity theft. The idea of someone using your information to apply for credit is quite scary. But don’t worry. If you notice unusual or suspicious activity, it’s vital to contact the credit bureaus TransUnion & Equifax to place a fraud alert on your account. Then, it’s important to freeze your credit accounts until your credit account is investigated.
How to improve your credit score
If you find yourself faced with a poor credit score and are struggling to figure out what your next steps are to improve it, check out these tips on ways you can improve your credit score fast.
Make your bill payments on time
As discussed, making a payment late will damage an already reasonable or adequate payment history, which will then decrease your credit score. To avoid this penalty, always make your payments on or before the minimum payment date provided by your financial institution. Try to set reminders on your phone when your payments are due – this will help ensure that you always make your payments on time.
Keep your credit utilization low
If you are close to reaching your credit limit, you are more than likely facing a poor credit score. Always try to keep your utilization ratio below 30%. Otherwise, you may give your creditor the impression that you cannot manage credit and at risk of missing a payment.
Monitor your credit regularly
It’s essential to monitor your credit regularly to help you identify any problems with your score. There are many websites online where you can check your monthly credit score for free to help you stay on track.
Avoid applying for unnecessary lines of credit
It’s important to remember that your credit score will be affected every time you apply for a new line of credit. Make sure to only apply for credit when you need it to avoid extra annual credit card fees and a damaged credit score.
Don’t cancel an old credit card
Length of credit history is an important factor when calculating your credit score. So, if you have a really old credit card, don’t cancel it. Having a credit card that has been established for a long time will help strengthen your credit history and contribute towards a good credit score. But don’t get stuck paying the annual fee if it’s a travel or cashback credit card, either. Call your credit card company to see if they can waive the fee this year, then cancel once you have at least a year’s worth of history on your new credit card.
Utilize financial technology
Financial technology is ever-evolving, and times have changed from the times where you needed to guess how to improve your credit score. Nowadays, there are many ways you can utilize financial technology to help provide you with recommendations on how you can improve your score. For example, MyMarble Platform uses Point Deduction Technology to provide you with personalized recommendations and a plan of action to increase your credit score.
The Bottom Line
A drop in your credit score can be stressful, but it’s not the end of the world. If you noticed that your credit score has decreased recently, it might be for several reasons. On the bright side, there are always ways you can improve your credit score to eventually gain back those valuable credit points. By focusing on credit improvement techniques, you will begin to increase your credit score over time and prepare yourself for an exciting financial future.
Marble Financial empowers Canadians to achieve their financial goals with MyMarble, Canada’s best virtual financial fitness trainer. Got a financial goal? MyMarble will help you reach it by providing you with personalized recommendations on how to improve your credit, better your budget and eliminate debt slowly.