In September, I applied for a new credit card and only made a few purchases with it. Soon after, my credit score was 41 points lower than it had been less than two months before. What gives?
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I recently noticed a huge drop in my Experian FICO credit score – from 831 on Aug. 1 to 790 on Sept. 25.
This wasn’t a huge deal because scores of 740 and above qualify for the best terms, but it was still disconcerting to see a 41-point drop in less than two months. The best explanation I can think of is that I applied for a new credit card in mid-September.
However, that type of activity is only supposed to trim about five points off a credit score. That’s the typical effect of a “hard pull,” which is what it’s called when a lender checks your credit in response to an application.
Another potential negative of my credit card application – which was approved, by the way – is that it slightly lowered the average age of my accounts. But the benefit, which I thought would have an even greater impact because of the way FICO scores are calculated, is more available credit and therefore a lower credit utilization ratio (since I didn’t make many new purchases).
In credit scoring, the bigger they are, the harder they fall
How much you owe counts for 30 percent of your FICO score (only payment history, at 35 percent, is more important). Length of credit history is worth 15 percent, credit mix is 10 percent and new credit is 10 percent. I’ve paid all of my bills on time in the past seven years (that’s how far back credit scores look for negative items), so there weren’t any late payments to blame for my recent 41-point drop.
My credit utilization remained constant during the August-to-November timeframe. My overall utilization ratio is below 10 percent and the same is true on all four of my credit cards. Anything below 30 percent is good and anything below 10 percent is really good, so I don’t think this factored into the 41-point plunge either.
“The bigger they are, the harder they fall” applies to credit scores in that a negative item will hurt someone with a score in the 800s much more than that same negative item would hurt someone in the 600s. But I’m still surprised that my new credit card application – if that was, in fact, the reason – caused my score to drop 41 points in less than two months. The good news is that I regained 33 of those points a few weeks after that.
What other experts said
I consulted with three credit scoring experts: Trey Loughran, an executive at CreditCards.com’s parent company, Red Ventures, who spent more than a decade at Equifax; John Ulzheimer, a veteran of both FICO and Equifax; and Sally Taylor, vice president of scores at FICO. They all believe my 41-point drop can be traced back to a series of small tweaks.
Ulzheimer explained, “Normally a modest decrease followed by a quick recovery is caused by actionable and subtle changes, either in isolation or a combination of things such as a new inquiry, a lower average age of trade or an increase in utilization. The increase suggests that the score impacts were actionable, unlike things like [derogatory items] which don’t just go away the next month.”
In other words, a few little things added up, but not for long, so I shouldn’t worry. That makes sense. He and Loughran both noted that adding a fourth credit card to my portfolio was one of these little things, since “number of accounts with balances” factors into the algorithm.
Taylor added, “The age of your newest account can factor into the FICO score as well. Empirical analysis of millions of credit files has found that – all else held equal – those with recently opened accounts represent elevated risk of default down the line. But as you observed, the score can bounce back relatively quickly, provided that you do not have any additional new credit accounts post to your file.”
This underscores why someone in the market for a mortgage, in particular, needs to be so careful with their credit. You don’t want to apply for any other credit immediately before applying for a home loan. That’s a very sensitive time in your financial life, and you shouldn’t complicate it with a new loan or credit card. Wait until after your mortgage is approved.
Little things add up
I was also intrigued by Taylor’s response to my theory that my new credit card should have helped my credit score in at least one aspect: more available credit lowering my overall credit utilization ratio.
“With your FICO score well into the 800s, you were already likely scoring about as well as you could on your overall card utilization ratio,” she said. “So the addition of the new account (and additional available line) probably didn’t offer any sort of uplift to your score from that dimension.”
That gets back to the “bigger they are, harder they fall” idea. My credit score had much more room to drop than rise. The presence of a new account with a balance, the lower average age of my accounts and the hard pull outweighed my improved credit utilization.
Little things really do add up. The good news was that my score rebounded quickly and will remain high as long as I continue to pay my bills on time and exhibit other positive financial behaviors. Managing your credit, after all, is a marathon, not a sprint.