Taking on debt? That’s easy.
But getting out of debt? That can be hard.
Too much debt and you may not be able to keep up with payments—which can affect your credit score,1 your ability to get approved for auto and home loans, and your feeling of control over your future. Let’s dive in.
Start with your credit score
Your credit score is based on one of your credit reports from a major consumer credit bureau—Equifax, Experian, or TransUnion—and serves as an estimate of how likely you are to miss a payment in the future (such as a credit card bill or auto loan payment).
High score? You’re a safe bet. Low score? You may have some problems securing a loan or getting a good interest rate. The average credit score is 710.2 A credit score above 700 is generally considered good.3
Paying debts on time builds your credit score
There are many signals that affect your score4, but one of the most important is whether you pay your bills on time.
Every time you pay a bill on or before its due date, that’s a good signal to the credit bureaus.
Every time you pay a bill late, or default on a loan, that’s a bad signal—and one that’s very likely to send your credit score down.
A better score means better loan terms
Each of us likely has a big dream that involves a big purchase. That purchase may be a new car, or even a house. Buying those items often requires taking on loans, which are a form of debt. Whether you can get a loan, what your interest rate is, and the size of your monthly payment all depend upon your credit score. A low credit score can add tens of thousands of dollars (if not more) to a traditional 30-year home mortgage.5
Your debt load can affect your loan terms, too
Beyond your credit score, lenders may also be concerned with your debt-to-income ratio (DTI). Your DTI is an indicator of how much pressure you’re putting on your budget. To figure out your DTI, divide your total monthly debt payments by your gross (before tax) monthly income.
Lenders use your DTI to assess your ability to repay a loan and whether you’re carrying a “safe” amount of debt. The Federal Reserve considers a DTI of 40% or more a sign of financial stress.6
Your debt, your choice
We all have big dreams. Many of those dreams may require debt. Consistently make the right debt decisions, and you’ll be well on your way to financial health.
And you know what they say: health is everything.