What Is a Credit Score and How Is It Calculated?

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  • Your credit score is a three-digit numerical representation of your credit history that tells lenders how creditworthy you are.
  • Scores under FICO and VantageScore, the two major scoring models, range from 300 to 850 with an average score of 716.
  • A good FICO credit score is 670 or higher, while a good VantageScore credit score starts at 661.

Your credit score may be one of the most important metrics by which your financial life is measured. It plays a key role in many of your major financial decisions, such as applying for an apartment rental, buying a car, and buying a house.

While the stakes are high, the good news is that credit scores have risen steadily over the past two decades. The average credit score in October 2005 was 688. In April 2022, the average credit score was 716.

Credit expert and former FICO and Equifax employee John Ulzheimer attributes this rise in credit scores partially to the amount of information now available about credit scores (for example, the article you’re reading right now).

“The amount of information we have free access to regarding credit reports and credit scores is enormous,” says Ulzheimer. “How you earn and maintain your credit score was, 30 years ago, kind of a secret, because no one really knew what a credit score was.”

Getting your average credit score up to date, especially if you don’t have a great credit score or any credit history at all, can seem daunting. However, you are in the exact place to start.

What is a credit score?

When someone says credit score, they usually mean a risk score from the credit bureau. This is a “numerical representation of the information on your credit report,” says Ulzheimer. These credit reports come from the three major credit bureaus: Equifax, Experian, and TransUnion.

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Scores range from 300 to 850, although they rarely approach 300. According to FICO, only 2.9% of consumers had a credit score below 499 in April 2022.

Your credit score tells lenders how trustworthy you are as a borrower. The higher the score, the more creditworthy you are. People who have credit get better rates when they borrow money because lenders see them as a safer investment.

As a representation of your credit report, it is updated each month to reflect any new information on your credit report. If you fill your credit report with positive information, such as bills paid on time or a variety of different types of credit, your credit score will increase. On the other hand, negative information, such as late payments or a large amount of debt, will drag your score down.

There are a handful of credit scoring models, though the two most commonly used are FICO and VantageScore, which use the 300-850 range. The most significant difference between these scoring models is how they calculate credit scores based on your credit information and what constitutes a good score.

What is a good credit score?

The full range of possible credit scores is divided into five sections:

A “good” credit score differs depending on which scoring model you look at. A good credit score for FICO is anything above 670 while VantageScore’s “good” threshold starts at 661.

Speaking about good credit scores in general, Ulzheimer says that “a good credit score, in my opinion, is any credit score that gets you approved for the best deals from lenders.” These vary by industry. Ulzheimer says that for auto loans, a 720 will get you the most favorable rates, while a 760 is good for home loans.

Just because you don’t have a stellar credit score doesn’t mean you can’t borrow money. However, the rates you can qualify for improve as your credit score increases.

How are credit scores calculated?

If your credit report is a test, “think of your credit score as the grade you got on the test,” says Ulzheimer. Your test consists of a handful of sections, each of which forms part of your overall score.

The sections for FICO and VantageScore are as follows:

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We unzip these sections:

Payment history: Equally relevant to the FICO and VantageScore models, payment history refers to how reliably you have paid off your outstanding balances throughout your credit history. An incorrect payment history will result in frequent delays, delinquency or even a payment sent to collections.

Credit balance: Also known as amounts owed, this category tracks your debt level as it is a good indicator of how your credit will perform in the future. In simple terms, the more money you borrow, the less likely you are to pay it back. This includes accounts with balances on them, as well as your credit utilization ratio, which measures how much credit you’re using out of the total credit available to you, especially when it comes to revolving credit.

FICO lumps all of this into one category while VantageScore separates credit utilization and credit balances into separate categories.

Duration and type of credit: Credit history length measures the average age of your accounts, as well as the age of your oldest and newest account. The older your credit scores, the better your score. That’s why it’s often beneficial to keep your old credit cards open, even if you don’t use them often.

Meanwhile, the type of credit looks at the variety of credit you’re using. Successfully paying off multiple types of credit shows that you are good at juggling these debts, so you have more credit.

While VantageScore lumps these two categories into one, FICO considers credit types separately from duration.

New credit: This looks at all new lines of credit you’re taking out. Too many recently opened lines of credit will affect your credit score. For every new line of credit you take out, you’re less likely to pay off all those debts.

Available credit: Available credit is very similar to credit utilization in that it looks at the total credit you still have available in your revolving credit accounts. This is not a large part of your overall credit score and is only pointed out by VantageScore.

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How to check your credit score

Your credit score is widely available from several sources. A financial institution with which you already have an account, such as a bank or credit card company, may offer free credit scores to its customers. It’s worth checking with your existing accounts before looking into other services.

If none of your accounts offer your credit score, you can look for free services that give you access to your credit score, such as Credit Karma’s Free Credit Report and Experian’s Free Credit Report. “If someone is shopping for a credit report or a credit score these days, they’re just not shopping, because there are tons of places where you can get those things at no cost,” Ulzheimer says.

Tread lightly with these services and read the fine print. You’ll want to know exactly what you’re signing up for when it comes to your credit history.

Why is your credit score important?

Even if you don’t plan on getting a credit card or applying for a loan anytime soon, your credit score still has an impact outside of borrowing money. For example, landlords may look to your credit score as an indication of financial responsibility when considering your apartment rental application. A history of late payments can tell them how likely you are to rent on time.

Insurance companies also take your credit score and credit history into account when they consider who to insure and how much they will charge to cover you. This is called a credit-based insurance score.

As we better understand what makes a credit score work, climbing the credit ladder seems a little less daunting. The percentage of consumers with a credit score of 700 or higher is 46.9% in April 2022, up 10.3% since 2005.

Joining this group may seem like a long way off, especially if you’re just starting your credit history. However, it is easier to build credit from scratch than to rebuild your credit from a low credit score. “There’s almost like a blank sheet of paper,” says Ulzheimer. “And you’re choosing what to put on that piece of paper.”

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