How to Improve Your Credit Score in 7 Steps

Wondering how to improve your credit score? Get answers to these important questions:

• What is a credit score?
• What does a credit score mean, and why does it matter?
• What is my credit score based on?
• Can I improve my credit score?
• How can I get credit without a credit history?

I learned the importance of having a good credit score early on. And it wasn't in the best way. I was in college and got a lot of credit card offers. Of course, I filled them out. But I didn't use the cards because I didn't have a job, and my dad made it very clear he wasn't going to pay my bills. I thought I was being responsible. And I was. Except that my cousin asked if she could use one of my store credit cards to buy just one outfit, and I said okay. That was a mistake.

One outfit led to another, and before I knew it, she had charged my card to the limit. And she couldn't pay it off. I was stuck with an unpaid bill, which meant I started my young adult life with a ding on my credit report. If I'd understood how important it is to protect your credit score, I wouldn't have been so willing to hand over my credit card to my cousin.

As a financial advisor, I've worked with a lot of young (and not so young) people who've jeopardized their credit score in one way or another because they didn't understand the basics. So I'm going to answer some common questions about credit scores and offer strategies on how to improve yours.

A credit score is a numerical expression of how credit-worthy you are. And a major factor in that comes down to how likely you are to make your payments on time. It takes into account information from your credit report, including credit card companies you've dealt with, banks where you have or previously had loans, and almost anyone else who's considered you for credit. Lenders, landlords, even potential employers may be looking at your credit score as an indicator of how responsible you are.

You've probably heard of a FICO® score. That's because, while there are several agencies that create credit scores, FICO scores are among the most widely used. They range from 300 to 850, and each range determines how likely you are to get credit and at what interest rate. Your score not only can mean the difference between getting or not getting a mortgage or car loan, but also how much it will cost you to borrow that money. And that can translate into paying—or saving—thousands of dollars over time.

The average credit score is around 718. A score of 760 or higher usually gets the best rates.

Different credit scores like FICO or VantageScore use slightly different methods to calculate your score. But in general, your score is based on five factors—here are recent FICO weightings:

• Your payment history (35%)
• How much you owe (30%)
• How long you've been using credit (15%)
• Number of new credit accounts and applications (10%)
• Types of credit you use (10%)

Understanding how all this fits together is essential to answering the next, perhaps most important question.

Now that we've established how credit works, let's take a closer look at how to improve your credit score. A bad credit score may be due to some mistakes you've made, or it may be because you're new to the credit world and don't have much to show for it yet. Whatever the reason, here are seven things you can do to bring that score up—and keep it there.

Late payments or missing payments can lower your score more than any other factor. Making regular, on-time payments is one of the best ways to bring it back up. That's what I did to improve my own score when I got out of college. And that's what I do today. I also make sure to pay my bills before the due date. Setting up automatic payments makes this pretty painless. Just be sure you have the money in your account to cover them.

Ideally, the amount you borrow should be less than 30% of your available credit limit. This is called your credit utilization rate. So, if you have a card with a $5,000 limit, 30% of that is $1,500. But to me, the best guide is to only charge what you can pay off each month—that should be your real limit. Go ahead and use your card to buy groceries, gas, whatever you need, but pay it off right away. This will help you build credit and, at the same time, stay out of debt.

New accounts and multiple credit applications can lower your score and cause lenders to see you as a higher risk. Many cards offer rewards and discounts to lure you in, but don't be tempted by free stuff. It usually comes with high interest rates, annual fees, and penalties. That $10 off now could end up costing you a whole lot more later.

And while it might seem counterintuitive, every time you apply for a new credit card, the lender will typically run a "hard inquiry" into your credit history—and credit inquiries can result in negative marks on your credit score. So especially if you know you'll be looking for a big loan (like an auto loan or mortgage) soon, the fewer credit applications now the better.

Your credit mix matters. In addition to credit cards, having other types of credit such as student loans, a car loan, or a mortgage can improve your score. But avoid opening new accounts just to help your credit score. It's much better to develop the discipline of paying down debt and managing your current credit wisely.

The longer your credit card accounts are open (and in good standing), the better it is for your score. This includes accounts you no longer use and those with a zero balance. As long as they're open, they will be factored into the average age of your credit. You don't have to carry a balance to help your credit score. However, a word of caution here too: Don't be tempted to use a credit card just because it's there.

You can easily get a free credit report each year from the three credit reporting agencies—Experian, Equifax, and TransUnion. Just go to AnnualCreditReport.com. This report shows your payment history, loans, current debt (including credit card balances), bankruptcy history, and lawsuit records. But it won't show your credit score—that's available for a fee from the credit agencies. You may be able to get it free from your own credit card or loan provider.

Once you have your credit report, review it carefully. Make sure all the debts listed are yours and that balances you've paid off are reported accurately. Don't hesitate to dispute anything you think is incorrect. For an extra layer of protection in this era of identity theft, I suggest freezing your credit report if you don't plan to apply for new credit soon. It's quick and easy to unfreeze it if you need to apply for something down the road.

It may seem like you can't get credit unless you already have it. So, what do you do when you're just starting out? There are a few ways to begin building a credit history.

• Apply for a secured credit card. This requires you to open a savings account and keep a certain amount of money in it. The money in your account serves as security for your line of credit and you can charge up to a percentage of that amount. As you make monthly payments on the account, it's reported to the credit agencies, and you start building a history.
• Get a co-signer. Ask someone with an established credit history (such as a parent, grandparent, or guardian) to cosign your loan or credit application. You and your cosigner will both be responsible for the debt, so any related credit information will impact both of you.
• Be an authorized user. Be listed as an authorized user on a responsible person's credit card. A lot of parents do this when their kids go to college. The parents' credit history then goes on the student's credit card profile and helps them get started. I added a younger sibling as an authorized user. I never even gave him the credit card, but it benefited and strengthened his credit profile.

Building and protecting your credit score takes time and effort, but it's worth it. The real reward is the ease you could have in qualifying for major purchases in the future, like a home, a car, or college. Not only could it be easier to secure a loan with a higher credit score, but you'll also likely get a better interest rate—which could ultimately save you thousands of dollars.

So don't be a hostage to your debt. Act now to pay your bills on time, keep debt low, and prove to lenders that you're credit-worthy. Remember, how you use credit today affects what you can do tomorrow.