Debt plays a main role in your financial life. Not only does it affect your spending ability, it also has a direct impact on your credit score and a direct impact on your ability to borrow money or pay a low insurance rate.
The amount of debt you have is one of the biggest factors that goes into your credit score; your level of debt is 30% of your credit score.
The credit scoring calculation considers your credit utilization – the ratio between your credit card balance and your credit limit – for each of your credit cards and your overall credit utilization. The higher your credit card balances are relative to your credit limit, the more it hurts your credit score. Maxed-out and over-the-limit card balances are the worst of all.
Carrying a lot of debt, especially high credit card debt hurts your credit score and your ability to get approved for new credit cards and loans. Even if your debt-to-income ratio is low, if your debt hurts your credit score, you could still be denied. (Note that your income isn't a factor in your credit score.)
The following reasons impact on your credit score.
Paying off your balances quickly helps raise your credit score because you’re lowering your credit utilization. If your debt is too much to handle, your credit score could suffer. For example, if you miss payments because you can’t afford your debt, you’ll lose credit score points.
Choosing debt settlement or bankruptcy to deal with your debt will result in credit score damage that takes several months, even years, to recover from.
Credit counseling and debt consolidation don’t directly affect your credit score. But, debt consolidation can have a negative impact on your credit score. You could be penalized for opening up a new account, an action that lowers your average credit age. Age of credit is 15% of your credit score.
One of the myths about building a credit score is that you have to carry a credit card balance to boost your credit score. That’s not true. As you read above, carrying a credit card balance that’s too high actually hurts your credit score. You can use a credit card, pay off the balance in full each month, and build a good credit score without getting into debt. Ten percent of your credit score considers the types of accounts you have. Having experience with various types of accounts – credit cards and loans like personal loans,business loans etc– helps increase your credit score.