Finance Friday #2 - Factors affecting your Credit Score
You may know that how important it is to have great credit, but do you know the different components that impact your overall score? This very important number isn’t just magically pulled out of a hat; reporting agencies look at 5 different factors when determining your credit score:
Payment History - Accounts for 35% of credit score
Ensuring that you make debt payments on time is a great way to keep your credit score high. . Having one late payment on only one account may not affect your score, but you should avoid this if at all possible.
—What you can do: Make all payments on time. If you’re forgetful, set up auto-pay to make sure you never miss that important due date.
Credit Usage - Accounts for 30% of your credit score
Many lenders and financial advisors recommend keeping your credit usage below 15%. To give an example, if you have a credit card with a limit of $1000, having a $200 balance means you have used 20% of your available credit. Maxing out your cards to 100% of your available credit will bring your score down pretty quickly.
—What you can do: Pay down your cards as much as possible. Having a card with a very high limit but no balance is a great way to reduce your ratio of used vs available credit. Don’t close cards with no balance.
Age of Credit - Accounts for 15% of your credit score
Credit agencies determine a portion of your score based on how long you’ve had credit accounts open. Many lenders will advise against closing credit accounts once paid off. Having a long history of credit shows lenders that you have a proven track record of dependable payments. Even if you’ve done a great job making payments on time, a very low age of credit/ short borrowing time doesn’t give the agency much info on what kind of borrower you really are.
—What you can do: Leave accounts open after they’ve been paid to zero.
Variety of Types of Accounts - Accounts for 10% of your credit score
Lenders look for a mix of credit types. Revolving credit includes accounts like credit cards and charge cards. Vehicle and personal loans fall into the Installment credit category. Having utility bills in your name also gives variety to your credit. This information shows lenders that you are able to effective repay money owed in several different capacities.
—What you can do - Vary the types of credit lines you use. Obviously, do not go into debit just to accomplish this step.
Credit Inquiries - Accounts for 10% of your credit score
Soft inquiries are those that usually occur without your knowledge, such as when you receive pre-approved credit cards in the mail, have a background check, or view your credit score yourself. These don’t go on your long-term credit history. Hard inquiries, however, stay on your credit for about 2 years and can actually reduce your score by a few points. These are done when you apply for any kind of loan, credit line, or even ask for a credit increase. When performed once in awhile, these don’t have much effect. Too many repeated hard inquiries in a short amount of time, though, can make you look like a risky borrower.
—What you can do - Don’t apply for too many different lines of credit in a small period of time. Also avoid applying for any kind of credit “just to see” if you can be approved. The exception here would be a home loan. Often, it’s wise to establish a baseline credit inquiry with your lender if you’re hoping to buy; then he or she can give you tips on where you need to improve before going through with the home loan.
How to check your credit score for free:
-Visit Annualcreditreport.com which is authorized by Federal law as a way for consumers to check credit. You are entitled to receive one free credit report every 12 months.
-If you have an existing credit card, log in and check whether the account supports a free credit check. Many cards have this as a feature these days.
I hope this blog has helped you further understand the different ways your credit score is calculated and the factors that impact your numerical score. Check back next week for another edition of Finance Friday.
