Hand-in-Hand: The Relationship of Income and Credit
A friend of mine who recently scored a better-paying job remarked that one of the things he was looking forward to about his hiring was that his credit would improve. He couldn’t wait for the bump he believed his credit score would get from his new higher income.
Not wanting to take away from his excitement over his new gig, I just nodded. After all, he was partially right. More income could actually improve his credit. Just not in the way he thought.
Credit Reports & Scores Don’t Factor In Income
My friend believed that his improved income would be reflected in his credit reports, which would, in turn, raise his credit score, which is based on the information contained in his credit reports.
He was wrong.
While credit reports do list a number of things—credit accounts or “tradelines,” identifying information, your payment history, to name a few—your income is not one of them. Five main factors also go into calculating your FICO® Score—one of the primary credit-scoring models—but, again, income is not one of them.
So a raise or a better-paying job or an additional income stream will not directly raise your credit score. It could, however, indirectly result in bumping up your three-digit credit score, which potential lenders use to assess your creditworthiness. That’s because, while income and credit score are not linked, income can play a big role in your overall credit picture. Here’s how.
Income Is Instrumental In Getting Credit
If you’ve ever filled out a credit card application, you know that one of the fields is for your income. That’s because the CARD Act of 2009 prohibits credit card issuers from giving you a credit card without first considering your repayment ability. And knowing your income is key in creditors assessing your ability to pay them back for the simple reason that it’s more difficult to pay if you don’t have enough money coming in. By the way, divulging your income is mandatory on your credit card application but voluntary once you’ve been approved for the card.
If you have a lower credit score—or no score at all because it’s your first time applying for credit—your income may be weighed more heavily in deciding whether to grant you credit because your payment history may not be great or even nonexistent. But if you have a steady, reliable income to draw from, you may be viewed as more attractive and less risky to potential lenders.
On the other hand, even if you have a good credit score but little or no income, you may be denied credit or be offered less credit than you’d like. This is because income not only factors into the credit application process, it’s also typically a factor in determining your credit limit.
Many consumer lenders and mortgage underwriters also consider your debt-to-income ratio, which measures how much of your income goes toward paying off existing debts. Credit card companies don’t use this ratio in making credit decisions, but lenders that do generally like to see a ratio of less than 35%.
Income Information Is Used For Credit Line Increases
Under the CARD Act, a credit card issuer must also consider a consumer’s ability to make the necessary payments before granting a credit line increase. Which means your credit card company will ask you to update your income information before making a decision on whether or not to extend more credit to you.
You should know that asking for your income and verifying it are two separate matters. In actuality, credit card issuers rarely confirm your income. They will, however, likely use industry data to verify that your income falls within an expected range. So if you list your occupation as a waitress on a credit card application or credit line increase request and list your income as $200,000, they may suspect that you’re embellishing.
How Income May Affect Your Credit Score
So your income doesn’t directly affect your credit score, but it can influence it by affecting things that do contribute to your score. Here’s how it could influence each of the five categories that make up your FICO Score.
1. Payment History (35% of score)
By living within your means, and exercising responsible fiscal behavior, the more income you have, the easier it should be to make consistent, on-time payments. Doing so will be reflected in your credit reports and your credit score.
2. Credit Utilization Ratio (30% of score)
An increase in income may make you more attractive to creditors and result in more available credit. By increasing your total amount of credit and keeping your balances low, you can lower your credit utilization ratio, which could increase your credit score.
3. Length of Credit History (15% of score)
A higher income may allow you to open credit accounts that you keep open for some time, raising the average age of your accounts and contributing to giving your credit score a bump.
4. New Credit (10% of score)
A steady source of income once again makes you more attractive to lenders, which could result in an increase in the number of new accounts you open, which comprises 10% of your credit score.
5. Credit Mix (10% of score)
Income is a factor in acquiring revolving credit (credit cards), but it also plays a big role in installment credit (auto loans, mortgages, etc.) A healthy, steady income should make you more attractive to banks and mortgage companies for installment loans, which will diversify your credit mix.
Getting a raise or a better-paying gig or tapping into another income stream is nearly always a good thing. Just know that more income alone won’t drive up your credit score. But if improving your credit is something you’re looking to do, having more income at your disposal is an invaluable tool in making it happen.