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Your credit score can open or close financial doors—do you know what it really means? Because a credit score tells financial institutions how financially trustworthy you are, it can make or break you when it comes to making major financial decisions involving loans, credit cards, and housing. Knowing, protecting, and understanding your credit score is the key to financial success and achieving long-term financial goals. Let’s break down the basics of how these scores are calculated and how they impact your financial life.
Your credit score is a numerical representation of your creditworthiness. It essentially estimates how likely you are to reliably pay back loans, and it’s based on a range of factors calculated by credit bureaus, who adhere to formulas usually provided by FICO or VantageScore. There are five ranges of credit score: poor, fair, good, very good, and exceptional. Poor credit scores are generally lower than 580, while exceptional scores are 800 or above. Understanding your credit score not only means having knowledge of its calculation, but also realizing what your rating or range means for your loan eligibility.
Educating yourself on these five major factors will help you on your way to understanding your credit score. The percentages listed below are those used in calculating FICO credit scores, used by 90% of top lending institutions in the U.S.
The largest part of your credit score is based on your history of repaying loans. Late or missed payments on credit cards, installment loans, or other types of borrowing will negatively impact your score, while consistent, on-time payments will boost it. This is a large part of why your credit score serves as a sort of risk assessment for potential lenders.
Credit utilization is the amount of available credit you are actively using at a given time. Whether you calculate this for each card or overall, people with high credit scores usually have utilization ratios below 10%. Just as credit utilization makes up 30% of your credit score, it is recommended that you do not exceed 30% of available credit. For example, if your credit card has a limit of $1,000, you never want to spend more than $300, or 30%.
The length of time you’ve had credit accounts established also impacts your score. This will include your oldest and newest account and calculate an average age of all open accounts. For this reason, keeping old credit accounts open could be beneficial.
Having a variety of credit types can boost your credit score. Consider maintaining a range of accounts, like credit cards, installment loans, or mortgages. Your ability to successfully and responsibly manage a range of repayments demonstrates to potential lenders that you know what you’re doing and will pose a low risk to them as a borrower.
Opening new credit accounts rapidly has a negative effect on your credit score, and when applying for a new credit account, a lender will make a request for your credit report or score. These requests, or “inquiries,” are recorded and impact your score. Checking your own credit report and score does not impact your FICO score, so long as you order the report from the proper channels.
Understanding your credit score is crucial when evaluating your eligibility for loans, including mortgages, installment loans, or personal loans. The number also impacts your interest rate eligibility—better scores often mean you qualify for lower rates and will be able to save more money. Higher scores also lead to increased credit limits, giving you more wiggle room in that 30% range. Your credit score has the potential to impact major areas of your life, like apartment rent, employment, or utility set-up, so it’s important to take care of it.
At Credit Central, we believe in empowering you to take control of your financial life. Learn more about loan options and start diversifying your credit portfolio today.
