A new survey finds Millennials have some interesting (and wrong) ideas about how credit scores work.
Each week, Consolidated Credit searches for financial research that can help you deal with your debt and budget. This week…
The interesting study
The lending and financing experts at LendEDU wanted to know how much Millennials know about credit scores. So, they asked 500 Millennials between the ages of 17 and 37 to take a test about credit scoring in the U.S.
The big result
At least the Millennials polled by LendEDU have a shocking lack of credit knowledge. If these results truly represent an accurate sample of the Millennial population, credit card debt problems in the U.S. are likely to get worse. America’s youngest generation of consumers simply lack the knowledge they need to use credit effectively.
The fascinating details
The good news is that Millennials at least seem to be paying attention to their scores. Almost 8 in 10 (79.36%) have checked their score at least once. Almost half of that number have checked it within the past 30 days. However, what concerns people like Gary Herman, president of Consolidated Credit, is how little Millennials grasp how credit scoring works.
“It scares me to think that Millennials believe that the right way to use credit is to run up balances to their limit,” Herman says. “That’s the exact opposite of what’s actually good for a consumer’s credit score. It’s impossible to get ahead if you don’t know the right steps to take. And it’s even worse when the steps that you think are good are really bad.”
Take credit utilization. This is the measure of how much credit you have in use versus how much you have available. Here is the formula:
Credit utilization = current total balance / total credit limit
So, if you have $500 in debt and a $5,000 total credit limit between all your cards, your credit utilization ratio is 10%. That’s a good ratio to have.
The problem is that Millennials believe a high ratio is better. But in fact, lower is better. If you pay your balances off in full every month, it’s the best way to achieve an excellent score. By contrast, if you run balances up to their limits, you utilize 100% of your available credit. That’s extremely bad for your score.
What you can do
“Whether you’re a Millennial or a Baby Boomer, you need to know how credit works so you can take the right steps to maintain good credit,” Herman explains. “If you learn what factors make up your credit score, you can plan strategically to achieve the best score possible.”
This infographic explains the five factors used to judge consumer credit:
“The more you can learn about credit, the easier it is to manage,” Herman concludes. “You can avoid common traps that lead to debt and lower scores. The most effective credit managers also tend to have less problems with debt. They don’t make mistakes, like maxing out credit cards because they think it’s better for their score.”