Your credit score is a numerical figure representing all the information on your credit report. It signifies the level of risk financial institutions can expect in dealing with you based on your history of managing credit. As such, your credit score is a huge point of consideration by lenders, insurance agents and other financial companies when you apply for loans or services.
In short, lenders use your credit score to determine the likelihood that you will meet your payment obligations if they provide you with financing. Whether it’s a new car, house, college or just putting food on the table, knowing how the three-digit number is calculated can help you achieve your goals. And get access to top-tier financial products.
There are many different types of credit scores, each based on proprietary information. Nonetheless, the following five elements of your credit report serve as the basis for your score.
Payment History
The way you handle your bills affects 35 percent of your credit score. Have your creditors reported missed or late payments to the credit bureaus for inclusion in your credit report? If so, this can negatively impact your score. Also, note that the frequency a delinquency occurs definitely matters. Other things related to payment history, which can negatively impact your score, include:
Accounts sent to collection agencies
Court judgments
Tax liens and garnished wages
Bankruptcy
Foreclosure
Defaults (debts you have stopped paying)
Credit Usage
Your credit utilization rate makes up 30 percent of the points in your credit score. It is the ratio of your current balances versus the amount of credit available to you. Where’s the impact?
A total amount of debt that is too high
Charging credit cards to the max
A manageable ratio of 30 percent or less is recommended
Length of History
Do you have old accounts you are thinking of closing? The length of time you have maintained a credit account attributes 15 percent of the points in your credit score.
Longer account history perceived beneficially
Little credit history is detrimental because there is no indication of past behavior.
New Credit
Every time you submit an application for credit a potential lender or financial institution pulls your credit report and credit score, which is then recorded on your report as a hard inquiry. In fact, these inquiries will account for 10 percent of your score.
Avoid multiple applications for credit
Types of Credit
The different types of accounts you hold—loans, credit cards, mortgage—make up the remaining 10 percent of your credit score. A healthy mix of accounts is beneficial to your credit report and may include an installment loan, such as an auto loan or mortgage and a revolving account such as credit or department store cards. Ultimately, lenders like to see that you can handle various types of debt responsibly.