Personal credit is something that's very important in our current society and financial culture. Unfortunately credit scores are terribly misunderstood by the vast majority of Americans. That's because there are tons of myths that abound regarding our credit scores and how they can be positively and negatively affected. One such myth has to do with employment.
For some reason there are many people who believe what you do for a living will have an impact on your credit score. The thinking is that lower paying jobs will automatically be considered less credit worthy than higher-paying ones. So before we go any further, we'll start by saying this myth is patently false.
Although there are literally hundreds of different scoring methods available to lenders, the most common used in the United States is known as the FICO system. It is used by the three major credit reporting agencies as well as most mainline banks and lending institutions. True, some use old FICO formulas instead of the up-to-date ones, but most still use this scoring system nonetheless. This is an important fact to note because FICO does not consider anything about your employment when calculating your score. FICO doesn't care about:
- your job title
- the type of work you do
- how long you been employed at your current job
- who your employer is
How You Use Credit
Regardless of your job title and annual salary, how you use your credit is the single most important factor in determining your credit score. In theory, it's possible for someone making $500K annually to have a worse credit score than someone making $40K. If the wealthier individual uses his credit in such a way as to upset computerized formulas, his score would take a nosedive. On the other hand, the middle-class worker who uses his credit properly could find his score well over the 700 mark.
To understand what it means to use credit properly, pretend that you're a banker issuing a car loan. What you're trying to assess in reviewing your customer's credit is the likelihood he or she will default on the loan. So what good does it do if a millionaire has maxed out all of his credit accounts and is late on payments consistently? Such an individual is at higher risk for default, which will affect his ability to secure that car loan. Part of his risk will be reflected in a lower credit score.
What Affects Your Credit Score?
There are several different components to your credit score that are all assigned a point value. When all of those point values are added up it results in your credit score. These different components include:
- how much outstanding credit you have
- how much you owe in relation to your limits
- the types of credit you have
- how long you've had credit
- your payment history
- the number and frequency of "hard" credit inquiries
- the number and types of accounts you have opened and closed
There are so many factors involved in these components that it would be nearly impossible to discuss them all in this limited space. As a general rule, the best way to look at this is to liken it to your favorite football team going into the championship game. You are weighing a bunch of factors including personnel matchups, team histories, big game experience, and so on. As you weigh all those factors together you get a pretty good idea of how you think your team will perform. Those same factors are used by odds makers who take bets on the big game.
When one of your creditors considers taking a risk on you they are essentially doing the same thing. They want to make sure that you are not over-extended financially; they want to know that you are not likely to max out all of your credit to the limit; they want to be comfortable in their belief that you will not default on your loan. Your credit score is but one factor they take into consideration in their assessment.
Your Credit Score Can Affect Your Employment
While your employment will not be taken in consideration in calculating your credit score, the same can't be said the other way around. In most states it is completely legal for employers to run credit checks on applicants before bringing them in for interviews. The thinking behind this is the idea that individuals with poor credit will be less dependable and trustworthy on the job. That means if you have a poor credit score and credit history, it could prevent you from securing that job you're after. It might also prevent you from getting that promotion if you are already working.
There are a handful of states that have outlawed or severely curtailed the practice of employers checking credit histories. However, that's the exception rather than the rule. The U.S. Congress took up legislation a couple of years ago to ban the practice on a national level, but the law was never brought to a vote on the floor. At this point in time (Dec 2011) it is still completely legal for employers to check credit reports and to weigh the information found in them when considering candidates for employment.
Check Your Credit As Often As Possible
One of the other myths surrounding credit scores is the idea that checking your credit often will reduce your score. This idea was born of the fact that too many "hard" credit inquiries do negatively affect your score. When we say "hard” inquiries, we’re talking about creditors who are checking your score before loaning you money. So, for example, if you apply for five different credit cards, all of those banks will check your credit history. All of those inquiries will be considered "hard" inquiries and affect your credit score accordingly.
On the other hand, you are allowed to check your credit score as often as you like without it having any kind of effect. This is important to note due to the fact that many people are afraid of checking their credit score because they don't want it affected. Understand that the law allows you one free credit check annually from any one of the three major credit reporting agencies. After that, you can order credit reports as often as you like, just as long as you're willing to pay for them. Rest assured they will have no impact on your score.
Checking your credit score often is imperative for a couple of reasons. First of all, it keeps you abreast in case incorrect information is falsely reported to credit reporting agencies. It also lets you know fairly quickly if your identity has been stolen and people are trying to open credit in your name. If you don't know what your credit report says, there's no way to know these things. As a general rule, a monthly or bi-monthly credit check is a good idea - if you can afford it.