Feeling like your financial fate is being determined by pesky, confusing digits? Credit scores are based on complex algorithms that take multiple factors into account such as payment history and length of credit. The weight of each factor can vary a bit depending on each individual’s credit profile and there can be discrepancies in scores reported by different credit bureaus. We understand it’s confusing, but a little more understanding of what your score is based upon can help you to see what areas you can improve on moving forward. It’s never too late to improve your score!
What is a FICO Score, why does it matter and how can I raise it?
A FICO Score is a numerical analysis calculated by using information on consumers’ credit reports and is used by top lenders. Lenders rely on the FICO Score to allow them to rank consumers by their probability of fulfilling their credit commitments. Most scores range from about 300-800+, with a higher score correlating with lower risk to lenders. By assessing a customer’s creditworthiness based on their ability to pay back their credit obligations, the FICO Score is the most widely used broad-based risk evaluation tool, partaking in billions of credit decisions every year. If your FICO Score is low, it can cause a lender to deny you credit based on your past. But what is the number based upon anyway?
FICO Scores are made up of 5 main components.
Payment history (35%), amounts owed (30%), length of credit history (15%), new credit (10%), and credit mix (10%). As the percentages allude to, the two most important components are payment history and amounts owed, as combined they make up a total of 65% of your score.
Payment history (35%) basically shows lenders that your bills are consistently being paid on time. These payments can include credit cards, retail cards, installment loans, mortgage loans and finance company accounts. Missing payments will drastically affect your score. Additionally, the more recent your late payment is, the greater the impact to your score. For example, a missed payment 3 years ago affects your credit score less than a missed payment 3 weeks ago.
Amounts owed (30%) will show lenders your credit utilization. Lenders control how much they provide, but only you can control how much you use. Generally, you want the balance you owe to be 30% or less than the total line of credit you have, as people who use a high percentage of their limit may struggle to make a payment. A quick fix to improve the amount owed portion of your score is to pay off as much as you can.
Length of Credit History
Length of credit history (15%) is simply how long you have had credit in your name. Although this may seem discriminatory, the longer you have been using credit will give lenders a better understanding to predict how you will handle credit moving forward. Generally, a longer credit history will increase FICO Scores, and because of this, it’s a good idea to keep credit cards open even if they aren’t necessarily being used regularly.
New credit (10%) is the section of your score based on how many credit inquiries you have had and if those inquiries resulted in a new credit line. Opening several new lines of credit in a short amount of time will negatively affect your score. Inquiries are not an enormous deal as long as you open new credit along with it within 30 days. Having your credit pulled and being denied a line of credit based upon your score will hurt your score.
Finally, your credit mix (10%) shows lenders the variety of credit you use to benefit yourself. It’s important to have a mixed balance of credit – only having credit cards may be a red flag to lenders, as well as only having mortgages or car loans. Experience with revolving and fixed payments can give a lender a better picture of your utilization of credit.
To improve your score, take a look at your own chart to see how each section is affecting you. It’s likely that the simple fix of making on-time payments and keeping balances low will get you off to a great start, but it’s important to keep all pieces of your credit score pie in mind.