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Mike & Emma: Hey.  

Mike: So 'credit score' is one of those phrases that can universally inspire dread. 

Emma: Like 'heart attack' or 'shark attack' or 'Tumblr is down'.  

Mike: But your credit score can have a significant effect on your financial life, so it's important to understand it. Now, maybe an easier way to think of credit scores is to think of it as a "trust score".  It's a personal number that you receive, ranging from 501 to 990 that basically ranks how likely you are to repay your debts or to pay your bills on time. The number is determined by a third party and typically banks and credit card companies use the number to determine whether or not you're an acceptable risk.  I think that if you and I were to star in like a Michael Crichton style thriller it would be called "An Acceptable Risk".  

Mike: Like, you would be the spy, and I would be kind of like the guy who has to hack into computers for you.  

Emma: Can we get a poster for that?  I would be like--

Mike: I would be like--

Mike: A higher score is better.  If you have a high score, financial institutions will see you as more likely to pay them back.  So generally speaking, when that trust score is up, you'll be able to get credit more easily and with better conditions.  For instance, in the form of a credit card with good rates and rewards.  

Emma: Most lenders will often still lend to riskier customers, but in exchange for that risk, they'll charge you more interest.  So let's say you want to buy a sweet bouncy castle that costs, oh, $250,000. You'll probably be wanting to get a mortgage. Stay with us, because here come some numbers.  

Mike: The current average interest rate on a 30-year mortgage is 4.1%.  If you have excellent credit, you'd pay as little as 3.7% in interest, and if you have poor credit, you'll pay as high as 5.3% in interest.  Bottom line, on a $250,000 mortgage, the person with a poor credit score will have paid over $230 more per month for 30 years, and will pay an additional $90,000 more in interest compared to the person with excellent credit.  

Emma: It blows my mind!

Mike: That is a lot of money.

Emma: Yeah!

Mike: You could shoot an awesome scene in An Acceptable Risk for that.

Emma: You could, yeah, yeah, I think so, at least one good stunt.  
Mike: Or, like, 10 scenes of me just going (typing motions)

Emma: So how are credit scores determined and how can you improve yours?

Mike: I've got some ideas.

Emma: Do you?

Mike: Yes.  Number one, payment history.  This is probably the most important factor in that trust score.  Do you pay your bills always and on time?  If you're consistently late or miss payments, other lenders will see this reflected in your credit score, and they'll be less likely to extend credit to you or to give you a loan.  One easy way to improve your payment history, which I personally use, is to set up auto bill pay whenever possible.  

Emma: Number two, outstanding debt.  This is the ratio of how much debt you have relative to your credit limit.  Remember that ratio is the key word here.  It's not necessarily about having a ton of available credit, it's about having a low debt:credit ratio.  

Mike: Lenders don't like to see that you're maxed out everywhere, because that leaves less wiggle room in case an emergency comes up. TransUnion recommends keeping your outstanding debt to less than 35% of your credit limit.  

Emma: You can improve your ratio by opening new lines of credit or by reducing some of the debt that you currently have.  If your budget allows it, pay a little bit extra on your credit cards or loans, a nice bonus here is that you'll be saving money on the interest that the debt was accumulating.  

Mike: Number three, account history.  This is the average age of your lines of credit.  The longer you've been paying your loans or lines or credit, the better.  This is why many experts recommend that you do not close old credit cards, even if you're not going to use them, especially if they don't have an annual fee.  

Emma: Number four, recent inquiries.  Every time you apply for a credit or loan, it results in what's called a hard pull on your credit report, and these temporarily ding your score a little.  To avoid too many dings, it helps to only apply for accounts as needed, and to plan ahead to spread them out a little bit.

Mike: And finally, number five, types of credit.  If possible, you may want to aim to have a good mix of different kinds of loans and lines of credit.  Loans show that you can repay money that you've already borrowed--

Emma: While lines of credit show that you can control spending so that you can afford to pay the money back.  If all you have are lines of credit, though, we don't recommend needlessly taking out a loan just to improve your credit score.

Mike: Although we don't endorse any specific credit institution, if you would like to check out your score, you can use sites like creditkarma.com.  You can receive letter grades on each of the categories that we've talked about so you can see where you can improve your score the most, and every American consumer is entitled to one free credit report every year at annualcreditreport.com.  

Emma: And that's all we've got for you today, if you have any tips or financial questions that you'd like to see answered in the future, please let us know in the comment section, we would love to hear from you.  In the meantime--

Mike: I know that we've dinged our trust score with you vis a vis catch phrases, and we're gonna work to repay that.  

Emma: But please, give us a little credit.

(Emma and Mike laugh)

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