Credit scores play an important role in nearly everyone’s life. High credit scores make it easier to access loans and pay less in interest, which leaves more capital for investing and reaching retirement goals. Low credit scores can impact everything from the cost of auto insurance to the likelihood of being approved to rent an apartment. Properly managing credit scores can help people get the loans they need and save a lot of money in the process.
In this article, we will look at how financial advisors add value when it comes to credit scores, and also offer some tips to help individuals improve their credit scores over time. (For more, see: The Importance of Your Credit Rating.)
Credit Scores: Advisors and Clients
Financial advisors play a much larger role than simply managing retirement savings – they help clients organize their finances and realize their goals. And credit scores play a huge role in a client’s financial success over the long term. Advisors may want to consider addressing these issues early, to help clients improve their financial welfare and enhance their own revenue.
For example, suppose that a client with poor credit (620-639) obtains a 30-year fixed rate $200,000 loan at a 5.555% APR, whereas a client with above-average credit (680-699) secures an 4.365% APR. The client with a low credit score will have a monthly payment that’s $145 higher and will pay an extra $52,235 in interest over the lifetime of the loan ($211,296 versus $159,061 in interest).
The extra monthly payment means that a client may save $145 per month less than they would otherwise, while missing out on $52,235 that could be invested rather than spent on interest. These opportunity costs can be avoided when advisors help clients review and improve their credit score, while helping them make decisions about when to apply for lines of credit and how to manage them. (For more, see: A Good Credit Score: Why Do You Need It?)
Tips for Improving Credit Scores
The good news is that credit scores are on the rise, according to Experian’s 2016 State of Credit report, which shows the average consumer credit score improving from 669 to 673. Experian's Director of Public Education Rod Griffin cited numerous factors behind the increase, including median household incomes that grew 5.2% (the first annual increase since 2007), jobless rates that remain relative low, and credit-specific elements.
“From a credit standpoint, the most prominent contributor was a decrease in the average number of late payments in credit reports,” says Griffin. “While a decrease from 0.40 to 0.35 doesn’t sound like much, payment history is the most prominent contributor in credit scores. That’s coupled with a steady utilization rate. So, late payments are down and debts as compared to credit limits have both increased, both of which are positive.” (For more, see: How Can I Improve My Credit Score? )
Individuals suffering from low credit scores can also act to improve those scores. Experian cites several tips including:
- Get a copy of your credit report and review it at least once per year and when you’re getting ready to make a major purchase.
- Know your credit score and understand what it means.
- Provide complete, accurate, and consistent identification on your credit applications to avoid problems associated with an incomplete file.
- Set up a budget and live within it to avoid over-using credit and/or overextending your finances, which can adversely affect credit ratings.
- Have some credit, but not too much, which shows creditors that you manage debts well.
- Pay your bills on time to demonstrate that you’re able to keep up with debts.
- Have a mixture of credit types including both loans and revolving credit.
- Keep credit card balances low to maintain a low utilization rate.
- Use caution when closing accounts since they can increase your utilization rate.
- Apply for and open new accounts only when needed to avoid the appearance of living on borrowed money.
The Bottom Line
“Higher credit scores enable people to access credit at lower costs, qualify for services with lower fees, and break the cycle of high cost, potentially predatory lending like payday loans,” says Griffin. “Access to lower cost credit frees up cash that otherwise would be used to pay debts. In turn, people are able to save more, pay down existing debts more quickly, and improve their financial well-being.”
Of course, higher credit scores also free up capital that can be invested to achieve retirement goals – a positive for both financial advisors and their clients. (For more, see: Can You Hit A Perfect Credit Score?)