Certainly you have heard how important your credit score is, but you have probably wondered what a credit score is. Who determines your credit score? How is your credit score determined? These are simple and straight forward questions, but the answers to them are not exactly so simple.
Your credit score is associated with your credit history, though it is not part of your credit report. It is a mathematical model used to predict how likely you are to repay a loan. The score is based upon information from your credit report. This information is obtained from credit lenders from whom you have borrowed from in the past.
Who Determines The Credit Score?
It is hard to get a definitive answer to exactly how your credit score is calculated. This is because there are 3 major credit scoring bureaus, and even they each use a somewhat different method to determine your credit score. And to add more complications to the matter a new method of determining your credit score was invented and went into effect on March 14, 2006 and is also used by the credit scoring bureaus.
Here are the 3 major credit scoring bureaus:
When it comes to your credit score, the most widely used scoring method is the FICO credit score, which stands for the Fair Isaac Corporation, the inventors of this method. The FICO credit score is used by many lenders and credit card companies to determine whether or not to approve you for credit. It is then further used to determine your interest rate and the amount of the line of credit to be offered.
The FICO credit score runs from 300 to a top score of 850, though in extreme cases, such as after a bankruptcy, your FICO score can be 0. Here are the general credit score ranges and how they are categorized.
- 700-850: Excellent Credit
- 680-699: Good Credit
- 620-679: Fair Credit
- Below 620: Poor Credit
As it currently stands, the three major credit bureaus use their own version of the FICO scoring system. They also have begun using a new method called the VantageScore. The big three credit bureaus actually collaborated on this new scoring method, though for now it has not caught on with lenders. Until it does, FICO is still the credit scoring method most often used and the one you should continue to monitor closely.
What Makes Up Your Credit Score?
You may think it is impossible to understand what goes into your credit score. While it is hard to get into specifics, the general make-up of your FICO credit score is known.
- Payment History: 35 %
- Amount Owed: 30 %
- Length Of Credit History: 15 %
- New Credit: 10 %
- Types Of Credit: 10 %
A further description of the elements of your credit score will give you a better understanding of what makes up your credit score.
Payment History: This includes most any bills or accounts you currently have or had in the past, such as credit cards, mortgages, utility bills, etc. This includes any delinquencies or past due amounts. It includes any accounts that have been sent to collection and current amounts considered past due. It also includes the elapsed time since you have had any delinquent accounts. In addition to all of these negatives it also includes positives, such as the number of accounts that you have paid on time and according to their agreements.
Amounts Owed: Total amounts owed on all accounts as well as the type of accounts and how much is owed on each type. This also includes how much you owe on certain accounts in proportion to the total credit line available: an example being the balance on your credit card in relation to the total credit limit of the credit card. It takes into consideration how much you still owe on loans in proportion to the amount previously borrowed. As another example, if you currently paying on a car loan, it would consider how much you still have left to pay as it relates to how much the original loan amount was.
Length Of Credit History: This is pretty simple and straight forward; it is simply how long you have had certain accounts open and the period of time since there has been activity on specific accounts.
New Credit: This includes the number of recently opened accounts and their proportion to the total amount of accounts you currently have open. It also considers the number of recent credit inquiries. Considered as well is the time that has past since credit inquiries and the opening of new accounts.
Types Of Credit Used: This considers what type of credit makes up your credit profile, such as credit cards, retail accounts, car loans, mortgages and more. Too many credit cards could be seen as a warning and lower your credit score.
Though most of the items listed as being considered for your credit score seems as if they are all negative, it is true that the positive things you do are considered. Paying off your bills on time and paying off your installment loans without being late on payments or skipping payments will help you to keep a high credit score. Also, by not overextending yourself with too many unsecured credit lines such as credit cards and retail accounts can lead to a better credit score.
Other Considerations For Your Credit
It should also be noted that companies that check your credit in order to approve you for a loan or a line of credit, do not just check the credit score. Each lender will have different methods and consider different elements of your credit history with varying importance. They will look at your credit score, but they will also check other predictors of your ability to repay a loan that are not included in your credit score. This is why you should also concern yourself with your credit report as well as your credit score.
This does not mean that your credit score is not vitally important to your personal finances. It is a way to measure your credit worthiness and is considered heavily by virtually anyone who considers offering you a line of credit.
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