Does Buying a Car on Finance Boost Your Credit Score?
Many people wonder if financing a car can help improve their credit score. While it's true that installment loans can contribute positively, it's crucial to understand how and under what conditions this can happen.
Can Installment Loans Improve Your Credit Score?
Yes, purchasing a car on finance can indeed help your credit score, provided you make timely payments and the finance company reporting to major credit bureaus. Timely payments on installment loans can generate positive payment history, which is a significant factor in credit score calculations. However, acquiring debt just to 'build credit' is not a recommended strategy.
Alternatives to Financing a Car for Building Credit
Instead of financing a car, you can build your credit score more effectively and cost-free through regular credit card usage. Maintaining at least three active credit cards, using them regularly, and paying off the balances in full each month can significantly improve your credit score and credit utilization. Carrying a balance month-to-month does not help build credit; in fact, it can harm your credit score.
Understanding Credit Card Utilization
Your credit utilization, which is the percentage of your credit limits that you use, impacts your credit score significantly—accounting for about 30% of your total score. Keeping your balances below 30% of your credit limit is ideal to maintain a high score. When your balances exceed 30% of your credit limits, you may lose points. For instance, a balance near your credit limit can cost you 50 to 75 points.
It's essential to know that card issuers report your balances based on the statement balance, which is determined by the due date of the statement. If you spend $295 on a card with a $300 limit and pay the balance in full by the due date, your credit score might still drop due to the high credit utilization. By paying about a week before the statement is sent, you can keep your utilization below 10%, thus protecting your score.
Optimizing Your Credit Score
Using credit cards effectively can help you achieve a credit score of 750 or higher. Regularly requesting credit limit increases can also help improve your score, as long as you don't let your balances rise. Higher credit limits can contribute positively to your score, but it's crucial to keep your utilization under control.
Impact of Credit Mix
A 'credit mix'—having different types of credit, such as car loans, mortgages, and credit cards—accounts for about 10% of your credit score. Having more than one credit type can provide additional points. However, it's never advisable to take on unnecessary debt just to 'build credit.' This approach can be financially wasteful and risky.
Remember, making timely payments on time and keeping your credit utilization low are key factors in improving your credit score. Avoid 'buy here pay here' car lots unless you trust their reporting to credit bureaus, as many do not report to any credit agencies unless you default and they repossess the car.