What it is- A credit score is a calculation based on information from a credit report which gives a representation of how credit-worthy a person is or how likely a person is to default on their loan. The most common credit score is the FICO score which calculates based on reports from the agencies Experian, Equifax, and TransUnion.
Why it is important- When you apply for a loan, be it for a car, house, or credit card, the lender will look at your credit score to measure what kind of interest rate to charge you. The higher your score the lower your rate. The lower your score the higher your rate. It’s in your best interest to have a better score as the interest rate charged is basically how much you will be paying to borrow money. A high score means you are more likely to pay back the loan without problems. A low score means there’s considerable risk in giving you a loan so a lender will charge you more for a loan in case you don’t pay it back. (See my article Buying A Car – Know Your Credit Score And Get Financing Before Hand for an example of how knowing your credit score can help).
How it is determined- The score is calculated approximately by:
- 35% Payment History – How well you have paid and if they have been on time
- 30% Credit Owed – The amount you owe relative to the amount of credit you have available
- 15% Length of Credit History – How old your oldest account is and the average age of your credit
- 10% New Credit – Amount of credit opened recently as well as recent credit inquiries
- 10% Type of Credit in Use – The mix of credit cards, retail accounts, finance loans, and mortgage loans.
What do the scores mean- The FICO score ranges from 300 to 850. It’s graded as such:
- 760 and above A Best credit (lowest rates) available
- 700-759 B
- 600-700 C
- 599 and below D or F Worst credit (highest rates) available.
How to make it better- Here are a few tips to improve your score:
- Pay your bills on time and make it an ongoing habit.
- Pay off your debt. Don’t just move it around.
- Request credit reports from the three main agencies and check for any errors that may show. They are not all identical and one could have an error.
- Avoid opening a number of new accounts in a short period of time.
When do I need it- If you are planning on getting financing for a car or a home you should request the three credit reports and your credit score. Car insurance companies also use your score to help determine how much to charge you. The reports only list information about your accounts while the score is the interpretation of your accounts. You should have both. It’s also a good idea to check your reports yearly to make sure there are no errors on it.
Related Posts
- 7 Credit Card Tips From ING Direct
- Credit Report Versus Credit Score
- The Credit Card Accountability, Responsibility, And Disclosure (CARD) Act Of 2009- Effect On Credit Card Holders
- How to Improve a Good Credit Score
- How to Increase Your Credit Score for a Better Rate
- Credit Karma -- Free No Strings Credit Scoring
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{ 3 comments… read them below or add one }
So it doesn’t matter how much you earn? I guess this limit the amount of credit you can get?
@Credit Rating – What you earn isn’t factored into your credit score. The score is determined through the five factors above. Now, a lender would look at what you earn as well as your score to figure out how much they can lend and at what rate. So what you earn can be a factor from the lender’s point of view but not in the actual score.
A six-figure salary doesn’t give you a better score.
Don’t charge more than you can pay off in a month. You don’t have to pay interest on a credit card to get a good credit score, and it’s a smart financial habit to pay off your credit cards in full each month.