CREDIT

Why Your Credit Score Matters and How to Understand It

Your credit score is a 3 digit number that ranges from 300-850. These 3-digit number represents how likely you are to pay your bills on time. When you are just getting established with credit, your score does not start zero. It starts somewhere around the mid 600’s and will either go up or down from there depending on how you handle it.

Credit scores play a pretty important role in our lives as well. Credit scores can affect whether or not you are approved for a loan, and what your interest rate for the loan will be. Credit scores can also affect being approved to rent, or receive a job and even affect your car insurance rates. So it’s best to know how to keep your credit score in a positive standing.

Today, I want to spend a little time discussing how credit scores are calculated and break down each category. Credit scores are calculated using 5 categories payment history, amounts owed, length of credit history, types of credit and new credit.

The biggest factor in calculating your credit score is payment history which is 40%. When you go to apply for a loan the first thing a lender will look at is whether or not you pay your financial obligations on time, did you miss any payments and were any items sent to collections. Payment history is so important because if you have 1 missed payment of 30 days past due it could drop your credit score by 100 points and it will take time to get those 100 points back.

The next one we will talk about is amounts owed which makes up 34% of your credit score. Amounts owed refers to how much debt you carry in total. Lenders will look at: Are all of your credit cards maxed out? Or Do you have credit cards but have minimal balances on them? If your overall credit utilization is high it could indicate you are overextending or living beyond your means, this could also be a red flag to lenders that could be higher risk of defaulting on your loans (which means you don’t pay them back.)

The next factor in calculating your credit score is length of credit history and credit mix which makes up 21%.

Credit history simply means is how long your credit accounts have been open and how you have been able to maintain them. When you pay off credit card balances it is sometimes recommended not to close them so you don’t lose that history. Closing items removes the history that is being factored into your score calculations.

Credit mix is the type and depth of credit you have. When a lender looks at your credit report they want to see a mix of different types of loans like credit cards, student loans, auto loans or home loans. This shows lenders you can handle different types of loans.

The fourth factor in calculating your credit score is recent applications which makes up 5%. When you apply for new credit an inquiry happens which means you have the option of taking on more debt. An inquiry will stay on your credit for 24 months.

Lastly, I would like to share some tips with you on how to keep your credit score in good standing: make on time payments, review your credit report regularly and dispute any discrepancies. Keep your overall debt low and before you apply for any kind of credit or loan do you research on that lender to make sure you are making the best decision for you.

Sources:

https://www.nerdwallet.com/article/finance/vantagescore-fico-score-the-difference?msockid=3838fae7a1f563be3fc7ee17a0e06297