Your credit score is critical to your financial health.
Remember how fixated you were on your GPA during school only to find out later in life that no one ever asks you what your GPA was? Well, did you know that in real life you have a different kind of GPA that actually does matter? It’s called your credit score and it is critical to your ability to get credit.
What Exactly is a Credit Score?
Your credit score is a number that helps lenders determine your creditworthiness. In essence, it’s sort of like a grade based on the information in your credit report. Any time you apply for any type of credit, lenders will look at your credit score along with your credit report.
Your credit score can affect your ability to get a loan, rent an apartment, or even set up utility services for your home. Lenders check your credit score frequently. In fact, they’ll use your credit score to determine whether to change your interest rate or credit limit on a credit card and even whether to send you a credit card offer in the mail. A good credit score is critical to your financial health and wellbeing.
Typically, the term credit score refers to the FICO® score developed by Fair Isaac Corporation. It is today’s most commonly used scoring system.
How is a Credit Score Calculated?
There are several different ways to interpret the information on a credit report to determine a credit score. In general, a FICO score is based on the following information:
- Payment history: Your payment history comprises about 35 percent of your FICO score. A long record of on-time payments helps your score, whereas late payments, collections, and bankruptcies can hinder your score.
- Debt load: Your debt load comprises about 30 percent of your FICO score. A FICO score analyzes the amount of money you owe on all of your accounts, the number of accounts with outstanding balances, and the amount of available credit you are using. They look at your debt-to-credit ratio—meaning the more you owe compared to your credit limit, the lower your FICO score will be.
- Credit history: Your credit history comprises about 15 percent of your FICO score. The longer your credit history, the higher your score (assuming you don’t have any negative actions on your credit report). Not to worry if you’re just starting out in life and have a short credit history—as long as your credit report shows good credit management, you’ll be fine.
- New credit: New credit accounts for 10 percent of your FICO score. Any recently opened (or applied for) accounts will impact your credit score. FICO does take into account loan shopping for a single event, such as buying a home. The key is to do all of your rate shopping within a fixed period of time, such as 30 days, to avoid impacting your FICO score.
- Miscellaneous factors: FICO also uses a variety of miscellaneous factors to determine about 10 percent of your credit score. For example, having a variety of credit can positively impact your credit score. People with long credit histories tend to have several different types of credit such as credit cards, mortgages, auto loans, and personal lines of credit. This can slightly increase your score.
What is a Good Credit Score?
FICO scores range from 300 to 850. Most lenders consider a FICO score of 700 or above to be a sign of good financial health, whereas a score below 600 could indicate high risk. Lenders may decline credit or charge a higher interest rate if your FICO score is too low.
To learn how to improve your credit score, visit Make or Break Your Credit Score.