This week I'd like to continue our conversation about how to Save Big (not small) -- something we could all stand to do right now. This week's topic: how to raise your credit score to Save Big on credit.
As I've been telling you in the past few columns, I recently wrote a book called "Save Big," but it doesn't come out until January, and I feel like people need the information right now because of the crummy economy. So I'm sharing my favorite tips and tricks in this space each week in an effort to help and to get a conversation going in which you also share big savings ideas with me.
Click here if you have one for me. Remember to qualify it as a "Save Big" idea -- the savings achieved must be more than $1,000 in less than a year.
I maintain that the best places to find Big Savings are among our top five costs: houses, cars, credit, groceries and health care. Sandwiched right in the middle is credit, a puzzling one. Most people don't think of credit as an expense, and I'm trying to change that. We purchase credit just like we purchase houses and cars. The price of credit is the interest. For example, the interest owed on a $200,000 mortgage at 7 percent is $279,160 over the life of the 30-year loan. The credit costs even more than the house!
There are two ways to Save Big on credit: by using less of it or getting it for less. Today let's tackle the latter. The higher your credit score, the lower the interest rate you will be charged for loans. A lower interest rate can save you tens of thousands of dollars over the life of the loan.
Let me blow you away with some examples: 620 is the lowest score you can have and still get a mortgage. If you raised that score to 720, right now you would qualify for a mortgage at 5.093 percent interest instead of 6.46 percent interest. Here's how much that saves you each year on a $300,000 mortgage:
FICO Score … Cost of Loan
620 .................. $22,656/year
720 .................. $19,536/year
BIG SAVINGS = $3,120/year
The $3,120 savings a year is nice, but get this. If you kept the loan for 30 years, your total savings would be $93,600. Now let's look at a car loan. In this case, raising your score from 620 to 720 lowers your interest rate from 12.780 percent to 6.348 percent. Amazing. If it's a three-year auto loan for $25,000, here's your savings:
FICO Score … Cost of Loan
620 ..................$30,240/three years
720 .................. $27,504/three years
BIG SAVINGS = $2,736/three years
That's $2,736 that you can put toward your next car! OK, now that I've got you motivated, you'll want to know what steps you can take to raise your credit score. There are a bunch of do's and don'ts. This week I'll tackle the do's, next week the don'ts. Some are slow, steady steps. Others are faster, flashier moves.
• Pay down debt: If you have any extra cash on hand and you can put it toward your credit card debt, your score will rise as soon as the payment is reported to the big three credit bureaus. It is the fastest single step you can take.
• Pay on time: You must do whatever it takes to pay your bills on time. If you're a busy person, I recommend setting up an automatic payment so that you are sure never to pay late. If you've paid late in the past, the good news is that your most recent payment history carries more weight than past mistakes, so beginning to pay on time every time now will raise your score.