Your credit score is incredibly important to your future. Indeed, your overall score is can influence your ability to get a loan, buy a home, obtain affordable interest rates, and more. However, for far too many people, the composition of their credit score is unknown. This is a problem, and understanding how your credit score is calculated can be very beneficial for you and your finances. As such, here is an overview of what makes up your credit score.
35%: Payment History
This might be the most self-explanatory of the five factors here, and that’s good because it is also the most important! 35% of your credit score is determined by your history of making payments. In other words, a history of making all of your payments, on time, will boost this facet of your credit score. Conversely, a history of late payments, delinquent payments, repossessions, or foreclosures will negatively impact your credit score for years to come.
Given that this is the most influential factor on your credit score, it seems clear that you need to do whatever you can to make on-time payments. Making full payments won’t impact this aspect of your credit score, but it may influence others.
30%: Accounts Owed
The amount of money you owe on your credit can impact your credit score. However, the absolute amount of money owed isn’t nearly as important as your credit utilization rate. That’s the amount of credit you have available. So, let’s say you have a $5,000 credit balance, but a total of $100,000 in available credit. Your utilization rate will only be 5%. This would have you in a better position than someone who owed $4,000 but had a total limit of $20,000 (20%).
The most important way to improve your credit score here is to pay down the amount of money owed. At the same time, applying for more credit can potentially lower your utilization rate by giving you more credit.
15%: Length of Credit History
The more time you spend with good credit, the more your credit increases. This means that you should open credit cards as you need them and make sure to keep these cards as long as possible. This will allow you to build a track record of financial success. The average age of your account is important here, which is why you should avoid canceling credit cards whenever possible, as this may lower the age of your account.
10%: New Credit
This reflects the “hard” credit checks that a lender or credit card company will do if you apply for a new card. There is nothing wrong with applying for a new card, of course, as long as you need it. However, applying for too many cards or types of debt in a short time frame may result in a negative impact to your score, as it implies that you are taking on too much debt and may not be able to pay it back.
Fortunately, when you do apply for a new card, it only stays on your credit report for a year, and it won’t impact your score for more than a few months.
10%: Credit Mix
Generally speaking, it is good to have multiple types of loans. This includes credit cards, mortgages, and student loans. If you have a good credit mix, and a good payment history within each type of these mixes, your score is likely to improve. Of course, that doesn’t mean it is worth acquiring debt in order to improve this aspect of your credit score, but it does show that having different types of debt is not a bad thing for your credit score. Indeed, having multiple types of debt, but paying them regularly, is a very good thing for your score.
As you can see, many things go into influencing your credit score. Furthermore, these are not discrete, separate categories. Instead, they all influence each other to create a comprehensive credit history. As such, take care of your personal finances, and remember just how important your credit score is to your financial future.