Your credit score is not just a random number. Rather, it is a calculation that tells lenders how risky or trustworthy a borrower you are.
A higher credit score could lead to more affordable borrowing options, such as a lower interest rate on a mortgage or personal loan. What about those great credit card offers you see advertised? Often, the most attractive are reserved for borrowers with great credit.
It is for this reason that you should aim to avoid situations where your credit score takes a hit. But what if your score drops by 20 points?
Several factors can lead to a drop of 20 points. Paying off a loan, for example, could cause this kind of decline (even though you think paying off a loan might have the opposite effect). The same goes for applying for too many new credit cards in a short period of time.
Obviously, any drop in credit score is far from ideal. But should you sweat a 20 point drop?
Look at the big picture
If your credit score is in very good shape, a drop of 20 points may not affect you as much, if at all. It’s when your credit score is about to be not so good that a 20 point drop matters more.
Imagine you have a credit score of 825, which is considered excellent. With a score like that, you’ll usually qualify for the most attractive interest rate a given lender offers on a loan. You will also usually be able to take advantage of credit card offers.
If your score falls from 825 to 805, it can be disappointing to see. But in the end, it shouldn’t impact your borrowing capacity. You’ll probably get the same offers with a score of 805 as with an 825.
But if your score isn’t as good to start with, a drop of 20 points could have negative consequences. For example, a minimum credit score of 620 is required to qualify for a conventional mortgage. If your score is at 635 and it takes a 20 point drop, that could put you below that threshold.
Additionally, you may find yourself in a situation where a credit card company requires a minimum credit score of, say, 700 to qualify for a specific offer. If your score drops to 680, you may lose this opportunity, although 680 is still considered a good credit score.
How to avoid a drop in your credit score
Sometimes credit score declines are unavoidable. If you pay off your car loan or your mortgage, for example, you could see your score drop. A long-term loan can promote a stronger credit history, which is a factor in calculating your score.
Additionally, repayment of a loan could result in a less favorable credit mix. If your only open accounts are a mortgage and five credit cards, and you’re paying off your home loan, your credit mix will be even less balanced.
To be clear, you shouldn’t do not repay a loan on time because you are concerned that your credit score will be affected. And if you’re able to save money on interest by paying off a loan early, that’s also a decision worth making, even if a small credit score ensues.
You can try to avoid a minor drop in your credit score by being careful how you borrow. If you recently applied for a credit card, for example, waiting three to six months to open another could save you a small but noticeable drop.
All told, a 20 point drop in your credit score is usually not a reason to lose sleep. But it wouldn’t hurt to understand the factors that could lead to this kind of hit and avoid some of them if possible.
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