Why Do Credit Scores Matter?

Contributed by: Cindy Wysong, CFP®

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Question:  What three little numbers that belong only to you can help or hurt your financial life?

Answer:  Your credit score

Every single one of us reading this article has a credit score, but how many of us know what our specific number is?  If we were sitting at a tea party comparing notes with our friends (imagining this makes me laugh), would you be able to boast about your score or would you quietly sip your Earl Grey and hope no one noticed your silence?

What do credit scores matter?  Why should you care?  Before I answer that, let’s first dive into some of the details.

The definition of credit score, per Oxford Languages, is a numerical rating representing the perceived ability of a person to fulfill their financial commitments based on an analysis of their credit history and current financial circumstances. In simpler terms, it’s a number that reflects how likely you are to pay off your debts. A credit score would be meaningless for someone who always pays cash for their purchases.  But, at some point, most everyone chooses to borrow money to obtain a credit card, buy a car, buy a house, etc. And when you need to borrow that money, the lender needs to know how likely you are to pay it back.  This likelihood can generally be determined by looking at one’s credit score.

Once a lender decides to take a risk on you and lend you money, you have established credit.  Whether you make good on your promise to pay the lender back on a timely basis (per the contract) will soon become obvious in your credit score.  If you build a history of making timely payments in full, you build “good credit,” and lenders will be eager to lend you money in the future.  But, if your history of paying back loans is less-than-stellar, lenders will see this reflected in your credit score and will be more averse to providing you a loan.

Generally, a credit score measures somewhere between 300 and 850.  The higher the better.  The lower the number, the more perceived risk associated with lending money.

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Example:

Let’s say you have two friends, Lisa and Annie, who each desire to obtain a loan.  Lisa, whose credit score is 815, would like funds to renovate her kitchen.  Annie, whose credit score is 550, needs funds for a backyard project.  Both women need $50,000.

Because of her excellent credit score, the bank is happy to lend Lisa $50,000 with an interest rate of 3%. But, because of Annie’s poor credit score, the bank views her a little bit riskier.  Therefore, they have agreed to lend her the $50,000, but at a higher interest rate of 5%. 

With the above example, you can see how a bad credit score can negatively impact a person’s financial life, making obtaining credit more expensive. 

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If you don’t know what your credit score is, I recommend you take a little time to determine it.  (Some credit card companies conveniently list your credit score on the monthly statement.)  You might be surprised at what you learn.  If your score is a little bit more like Annie’s and less like Lisa’s, don’t fret!  Credit scores are fluid and adjust often.  You can begin to work on improving your score immediately.  Remember, knowledge is power. 

Note: If you are married, your spouse will have his/her own credit score.  But if you own something jointly, both your credit scores will be affected.

Some parents of young adult children desire to help their children build credit.  If you think your son/daughter is mature enough to handle the financial responsibility, perhaps he/she could open a credit card with a reputable bank.  Initially the credit line will likely be relatively small, but as your child proves their financial trustworthiness, he/she should be able to build a good credit score rather quickly.

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Cindy Wysong is a Partner and Wealth Advisor at BCWM, LLC.

To contact Cindy:

Email:  cindy@bcwm.com

Telephone: (913) 685-2300

www.bcwm.com