If you are interested in this topic, you might be about to apply for a loan, rent a place to live or change jobs. Or maybe you have you tried one of those things and were denied because your credit score was too low. Or maybe you are just curious. In any event, I’m assuming you now know your credit score. If you don’t, please see my previous post on this topic. Now that you have a number, we can break it down.
The most common credit scores in use today are put together by the Fair Isaac Corporation and are known as FICO scores. Your FICO credit score can range from 300 – 850. Your reported credit history makes up the score and lenders use the score to predict the future. Based on your history, what is the likelihood of you repaying your debt? A high score predicts that you will pay your debt in full and on time just as you have done in the past. A low score predicts that you are a credit risk, with a chance that you may not repay your debt or you might repay late. This score will impact your ability to get credit and also the interest rate you will pay. The highest credit scores will give you the best credit terms and conditions, including the lowest interest rates.
We have seen credit tighten in recent years and lenders are looking for higher and higher scores from potential borrowers. As a general rule of thumb, scores can be classified as follows:
Above 720 = Excellent
Above 660 = Good
620- 660 = Average
Below 620 = Below Average
Below 580 = Poor
The major components that are calculated to make up your credit score include:
Payment history (35%) – Do you pay on time? You should always pay your bills on time without fail. A single missed mortgage payment can drop your FICO score by 100 points!
Debt utilization (30%) – How much of your credit limit are you using? Maxing out your credit cards hurts your score. Try to keep your balances as low as possible to show that you know how to manage credit.
Length of credit history (15%) – How long is your credit history? The longer you have a positive history the better.
New credit (10%) – Do you have a lot of new credit? A long established history looks better than someone who has just opened up a lot of new credit accounts.
Types of credit (10%) – Do you have a mix of accounts? FICO likes to see both revolving (credit cards) and installment (mortgage/car/student loan) credit.
It is important to know and continually monitor your credit history. You don’t want to find a negative or erroneous item in your credit history at the time you are seeking new credit. Deal with those items before you need new credit and practice good credit habits to keep raising your score.