What determines my credit score

what determines my credit score

What Determines My Credit Score?

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Your credit score affects everything from buying a new house to getting a student loan, and even determines insurance premiums and some job positions. How, and why does a simple 3-digit number have so much “power”? The short answer is, because that’s what lenders wanted. years ago, FICO developed the FICO credit score and convinced lenders that this simple number can “predict” a persons credit-worthiness with relative accuracy. Now how accurate is to be debated, but in 2013 it is is what it is. If we want credit, we have to deal with our credit scores. There is no getting around it, and the main score that 8 out 10 lenders use is the FICO score. FICO standing for Fair Issac Corporation. This being the case, then it is important to understand what FICO uses to determine your score.

There are 5 main factors that FICO says go into calculating your credit score, and having an understanding of them will help you optimize your credit score.

1.  Credit History – or, how well you have made your payments. FICO did their homework way back when they first developed their credit score and concluded that the major determiner of one’s credit-worthiness, and also the #1 factor lenders wanted to know was how well a person has made their payments on past and current credit. Your FICO score was designed to basically tell a prospective lender how likely you are to ever be 90-days late if credit were extended to you at this moment. One’s credit history is an important key element in FICO’s credit algorithm, and it is a whopping  35% of your score. Everyone knows that lenders want us to pay on time each month. Start doing this today, and see your score go up!

2.  Revolving Debt Ratio .The next largest factor in calculating your credit score is revolving debt ratio, and for most of us that involves credit cards. It is 30% of your score. What is revolving debt ratio? First, let’s define revolving credit. Revolving credit is any kind of credit where the total amount available to use is a pre-determined, fixed, amount, and each time you use it you are “drawing down on”, and reducing that amount until paid back, at which time it is replenished, thus the term “revolving”. (Go here for more information on revolving credit and how

it works). Revolving debt ratio is the ratio of how much you have used of that limit at any given time – most importantly, when FICO runs their calculations. Example: If you have used $750 of a $1000 credit card, your revolving debt ratio is 75%. You have probably heard the term “maxed-out”. You are maxed out when you have used all, or almost all, of your credit card limit. You don’t want to be maxed out! This lowers your score. Keep it under 50% as  minimum. More on optimizing your credit score here.

3.  Length of Credit History. This factor has a less influence on your credit score than the two above, percent-wise, but is still very important. Short, but sweet, the length of time you have had credit accounts for 15% of your credit score.  The length of time means two things. How long you have been using credit in general, and how long you have had certain credit items open, like credit cards. Here, the longer the better is the key.

4. Inquiries – or, how many times you have applied for credit.. An inquiry is also called applying for credit. How many times you have applied for credit over the last 12 months effects your credit score by 10%. There is a lot of myth surrounding inquiries and ones credit score, but for this article keep this simple suggestion in mind: Don’t randomly apply for credit, and try not to apply more than 5-7 times a year. Go hear to learn more about inquiries and how they effect your score.

5.  Mix of Credit Type. There are different types of credit: revolving credit (mentioned above), installment loans, like auto loans, and mortgage (home loans). The mix of type of credit contributes

10% to the calculation of your FICO score. It may not sound like much, but when analyzed, the higher scores all have a good mix of credit types.

Here is a colorful pie-chart for your convenience. As you can see, most of one’s FICO credit score is determined by how well you do or don’t make your payment obligations, and how long you have been using credit. There is no better time than the present to start afresh making payments on time on your current debt, or if you have not even started, go out and get a credit card to start building history. (follow this link for a credit building credit card)

Source: upgrademycreditkc.com

Category: Credit

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