How Do Stocks, Bonds and Mutual Funds Affect Your Credit?
Your credit score is a tool lenders use to get an idea of how well you handle your finances and manage debt. With that in mind, you might reason that having an impressive portfolio of stocks and bonds might elevate your credit score. But that’s not always the case.
There are five factors that influence your credit score:
- 35% of your score is based on your payment history
- 30% is based on your current amounts owed
- 15% is determined by the length of your credit history
- 10% is based on how many new credit accounts you’ve opened recently
- 10% is based on your mix of different types of credit, such as credit cards, installment loans and mortgages
You’ll notice that nowhere in those five factors does it mention net worth or investments. In fact, it’s quite possible for someone with an impressive portfolio to have poor credit if they pay their bills late and max out their credit cards.
Investing in stocks, bonds and mutual funds doesn’t directly impact your credit score, but let’s look at a few ways your credit and these investments are related.
Investing in stock gives you an ownership stake in the corporation that issued it. Investors in stock may make money from dividends or from selling shares of stock that have appreciated in value.
Some corporations allow investors to buy or sell stock directly through the company without using a broker, but most stocks are purchased through a broker.
Typically, a broker will not will not need to check your credit score to open an account unless you open a margin account. A margin account is essentially a loan from the securities firm to pay for all or a part of the securities you purchase. So, like most lenders, the broker will require you to complete an application and get approved. Part of that approval process may include running your credit.
This credit check will be noted on your credit report as a hard inquiry, and it can affect your credit score. One hard inquiry likely won’t make much difference to an otherwise strong credit score, but if you have few credit accounts, a short credit history or a large number of hard inquiries within a short period of time, you could see a drop in your score.
Investing in bonds is like giving a loan to a corporation, government or municipality. In return, the issuer pays you interest and returns your principal when the bond matures after a set period of time. Some investors like bonds because they provide a predictable income stream and can offset more volatile investments.
When you open a brokerage account to purchase bonds, the firm is required to ask for your Social Security number because it must report any income earned from your investment to the IRS. It may also use your Social Security number to verify your identity. This is known as a soft inquiry and will not affect your credit score.
An exception would be if you purchase an exchange-listed bond on margin. As mentioned above, a margin account is like a loan from the brokerage, so opening a margin account to trade bonds will result in a hard inquiry on your account.
A mutual fund is a collection of securities such as stocks, bonds and short-term debt. You invest in mutual funds by buying shares of the fund, which entitles you to a portion of the income the fund generates from dividends, capital gains and appreciation of the market value of the fund’s portfolio.
You may be able to invest in mutual funds by buying shares from the fund itself or through a broker. Either way, the seller will use your Social Security number to verify your identity and this will result in a soft inquiry on your credit report.
Mutual funds cannot be purchased on margin. However, you can use mutual funds you’ve owned for at least 30 days as collateral for margin borrowing. So again, if you open a margin account with a brokerage, you will see a hard inquiry on your credit report, which may or may not lower your credit score.
While owning investments won’t directly impact your credit score, making good investments is part of overall financial health. Having savings and investments can preserve your financial well-being if you lose your job or face other money problems that leave you unable to cover debt payments and other living expenses with your paycheck alone.
If you have a lot of debt, it’s probably a good idea to work on paying that down before you focus on investing. The interest you’ll pay on credit card debt can quickly eat away at any returns you might get from your investments. So live within your means, use debt wisely and pay your bills on time. These smart financial moves will help keep your credit score strong, reduce the amount you’ll pay to borrow and put more money in your pocket to save and invest.