What is a credit score?
You might know that a credit report is a summary of your credit history and financial background, but credit reports are time-consuming to read and time is money. Credit bureaus, insurance companies, and creditors have developed credit scores to make it easy to assess a person’s risk factors at a glance.
Each company uses its own algorithm to calculate credit scores, since what defines “risk” varies across industries and sectors. Your credit score is not typically included with the free report that you are entitled to, however there are some circumstances where you can view your score for free, such as being denied for a loan based on your credit score. Some credit card companies may also provide a free score on your statements. Be advised that they use their own formula, and the number could be different if calculated elsewhere.
How are credit scores calculated?
These are some events that go into determining a credit score:
- Your bill paying history
- The number and type of credit accounts that you have opened
- Whether you pay your debts on time
- Whether you have been contacted by collection agencies
- The age of your credit accounts or loans
These are some characteristics that do not factor into your credit score:
- Sex and gender
- Marital status
- National origin
Creditors can use your age as a factor in your credit score. The law requires that any system that does so also treats the elderly with fairness.
The Fair Issac Corporation Score (FICO) is a specific kind of credit score that has gained popularity with a large number of lenders. Because it’s so widely used it can be considered somewhat more reliable than other scores. That doesn’t mean that you can’t be denied by a lender if your FICO score is good — they might have their own formula that says otherwise.
Three credit bureaus are responsible for the majority of credit report creation and upkeep: Experian, TransUnion, and Equifax. Depending on which bureau’s report is used, your FICO score could change. A FICO score ranges from 300 to 850. A higher score generally results in getting loans more easily and being offered better interest rates.
The FICO score composition:
35% Payment History – Have you paid your past credit on time?
30% Amounts Owed – What do you owe, to whom, and what’s your credit limit?
15% Length of Credit History – How long have your accounts existed, and how long has it been since you used them?
10% Types of Credit in Use – Do you have just credit cards or also retail accounts, loans, mortgages, and more?
10% New Credit – How many new accounts have you opened recently?
I want a really good credit score. How can I get one?
Great question! Many people wonder how to keep their credit scores healthy so that they can access loans and insurance when they need to.
Since every lender, business, or insurance agency might use their own unique score, it’s impossible to say with 100% certainty how to have a good credit score everywhere. But there are some things you can do that will generally give you a good score or improve a bad one:
- Pay your bills on time! When a lender is assessing risk, part of that is whether or not you’ll pay back what they lend you. If your credit report shows that you frequently make late payments or no payments at all, it could impact your score negatively.
- Don’t max out your credit cards! And do manage your debt. If you’re already loaded down with considerable debt, lenders may feel you’ve reached a limit where the risk of lending to you outweighs the benefits.
- Keep your credit up to date, and give it a history. Having no or an insufficient credit history could impact your score negatively.
- Get your free credit reports. Get your free reports every year and make sure your information is correct.
- Keep track of your credit inquiries. If you apply for a new line of credit this will register as an inquiry on your credit report. Applying for too many new accounts in a short of a period can negatively impact your credit score.
- How many accounts do you have? Talk with a representative to figure out what kinds of accounts could lower your score in the eyes of some lenders. For instance, loans from financial companies are sometimes viewed in a negative light by lenders and will lower your score with them.
Important: You might be thinking, “Okay! I’ll close out all but one of my credit cards and…”. Stop right there! If you closing accounts and consolidating credit card balances causes you to use a higher percentage of your total credit limit, then it could hurt your credit score.
What if I am denied credit?
If a creditor denies you they must give you a specific reason for the denial if you ask within 60 days. If they tell you, “You didn’t get enough points on our credit scoring system,” that’s not enough. Don’t let a creditor be vague with you or brush you off. They must give you a specific reason such as your income was too low or you have too much existing credit card debt.
I’ve got a great credit score. The world is my oyster!
Sorry to burst your bubble, but there are no guarantees. Credit scores are only one of many factors that a lender will look at when debating whether to give you a loan. They could look at other items on your credit report that don’t go into a score, like your assets, income, and current savings. Even then, rates will vary from lender to lender. So it always pays to shop around! If you have questions or concerns about your credit score talk to Credit Repair Pros.