Your credit score is like a bonsai tree: it requires careful tending and thoughtful behavior over time to produce the best results. Take good care with your credit - pay your bills on time and be a responsible borrower - and your credit score will help you qualify for the best terms on credit cards and loans. When it comes to actual scoring, all that matters is how you handle debt. Knowing the factors that determine your credit score will help you optimize this all-important three-digit number.
What Is A Credit Score?
Your credit score helps credit unions, banks and other businesses decide how much of a financial risk you are. It's based on your history as a borrower, along with several other patterns of financial behavior. A credit score is a three-digit number that typically ranges from 300 to 850. If you have a low score, it can indicate to a lender that you could be more likely to pay late or default on a loan. Conversely, the better your score, the better the rates you'll qualify for with mortgages, auto loans, credit cards, and other types of loans.
Who Decides What Your Score Is?
Your credit score is based on information in your credit reports, or your credit file. Three main credit reporting bureaus - Experian, Equifax and TransUnion - are in the business of gathering information for your credit file. They get that information from financial institutions and public records.
The credit reporting bureaus provide the information that they've gathered for your credit file to the credit scoring agencies. These companies then calculate your credit score... yup, you have multiple credit scores.
How Many Credit Scores Do I Have?
You've probably heard of FICO scores. FICO scores are based on a scoring model developed by one company - the Fair Isaac Corp. (now known as FICO). But they're not the only game in town. There's also VantageScore, which the credit reporting bureaus started to compete with FICO.
To make things even more complex, FICO and VantageScore also generate multiple versions of your credit score depending on what data is most relevant to its customers (read: lenders who pay them for access to consumer scores). For example, auto lenders have an industry-specific score, credit card companies have theirs, insurers, mortgage lenders and so on.
Thankfully, all of your credit scores are based on your behavior as a borrower. So knowing one of your credit scores gives you a good idea of how you rate when other scoring models are used.
What Information Is In My Credit Report?
Your credit file contains a history of your credit use, including how much money you've borrowed, from who, going back how long, whether you pay your bills on time and if you've recently applied for more credit. All of this information is used to calculate your credit score.
Here is what determines your score in order of most-to-least impactful:
- Payment history: 35% of your score. If you always pay your bills before the due date then you will nail this part of your credit score. Pay late or miss a payment and you'll ding your score. If you've had a bankruptcy, foreclosure, or defaulted on a loan, your score will dip.
- Amount of debt: 30% of your score. How much you currently owe counts for nearly one third of your score. But it's also based on your credit utilization ratio, which is how much of your available credit you're using. Someone who has $1,000 worth of debt on a credit card with a $2,000 limit has a higher credit utilization ratio (50%) than someone who has $1,000 worth of debt on a card with a $10,000 limit (10%).
- Length of credit history: 15%. This category considers how long you've had your credit accounts, including the age of your oldest account and the average age of all your accounts.
- New credit: 10%. Lenders look at the number and type of new accounts and requests for credit you've made. Applying for a lot of new credit cards in a short time period signals to a lender that you are in a financial tight spot and may be more risky to lend to. However, the algorithms they use do recognize when consumers are rate shopping for things like mortgages and student loans. If those inquiries fall within a two-week window, they'll count as one hard pull on your credit.
- Credit mix: 10%. Variety is the spice of life and credit scores. This part of the formula looks at the types of credit accounts you have. Ideally, you'll show a mix of loans that include revolving accounts (like credit cards), installment loans (auto loans) and retail accounts like store cards.
What's Not Used In Your Credit Score?
The credit reporting industry knows a lot about you. But there are certain things that are not included in your consumer credit file and therefore do not factor into your credit score, including:
- Personal information: Such as your race, color, religion, national origin, sex and marital status. Also missing is your salary and employment history.
- Interest rates: What you pay on credit cards and other loans is not included in your file. However, your balances, amounts due and any past due payments are included.
- Old credit account/credit information: Negative information eventually expires. Charged-off and collection accounts that are more than seven years old are not reported. Same with bankruptcies that are more than 10 years old. If you see those still listed on your credit reports, you can appeal them.
- Certain credit inquiries: When you check up on your own credit, it's called a "soft inquiry" and there is no harm done to your credit score and it does not appear on your report. Same with inquiries from lenders who are reviewing your account to send you a pre-approved offer. "Hard inquiries" are noted in your file. Those are made when you apply for credit and give an institution permission to check your creditworthiness.
What Is A Good Credit Score?
A score of 670 or higher is considered a good credit score by most lenders. A score of 800 or higher is considered exceptional. According to Experian, 67% of Americans have a FICO score of good or better.
It's important to know that whatever your score may be, it's up to the individual lender to say if your particular score meets their criteria for a loan and at what rate. As an example, a score of 670 might qualify you for a loan at a favorable rate with one lender, but another lender could tell you they require a loan of, say, 700 or higher.
One interesting thing to note: Men and women have nearly identical credit scores, on average - 705 and 704, respectively, according to Experian's recent analysis of credit and debt data.
How Can I Improve My Score?
It takes time and patience to build a solid credit history. A few rules of thumb to follow that can help you on the path to getting or maintaining a good credit score:
- Establish credit if you have little to none. Some people may be surprised to find that they have little to no credit. Perhaps you've been an authorized user on your partner's credit card, or you just haven't applied for any independent accounts. Protect yourself and build credit if this is the case. There are credit cards designed for people with little to no credit.
- Pay your bills on time every month. Since timeliness of payments has the biggest impact on your score (35%), staying on top of your due dates is paramount to keeping your score from getting dinged.
- Don't close your oldest accounts. Having a long credit history can show lenders that you're able to pay your loans on time and that you're a good candidate to extend credit to. If your oldest card is one you rarely use, either keep it active by using it for the occasional small purchase or ask the issuer if you can do a product change to a card that's a better fit for your spending habits. That way, you'll still keep the age of your account and your lender won't stop reporting your good behavior.
- Avoid opening too many new accounts at once. It can be tempting to apply for several credit cards within a short period of time to take advantage of lucrative sign-up offers. But too many inquiries can temporarily drag down your score. Plus, sign-up offers typically require minimum spending amounts which could mean spending more than you normally would just to get that welcome bonus.
- Stay well under your spending limits. Bumping up against the credit limit on your cards can be a signal to lenders that you're spending beyond your means. Try to keep your credit utilization ratio at 30% or less for the optimal impact on your score. If applying for a mortgage or other large loan in the next several months, keep your spending to less than 10% of your available limit.
- Check in on your credit report to make sure there are no inaccuracies. You can (and absolutely should!) see what the credit bureaus have on you. They legally have to share that information. Thankfully, you can now get your credit reports for free — you can pull your credit reports free each year from each of the bureaus by going to annualcreditreport.com. (Note: You can see your credit report for free, but not your credit score, but that’s okay. When you pull your credit report, you can see immediately if there are any errors that need to be corrected, and where you can improve.