What Is A Credit Score?
A credit score is essentially a number that lenders use to determine the potential risk of lending money to a cardholder. Credit scores are immensely important if you ever need to apply for a loan. Lenders, like credit card companies and mortgage bankers, check your credit score and decide how much money they will lend you and at how much interest.
Other stakeholders interested in your credit score include insurance companies, employers and landlords. These people make a judgment of how financially stable you are based on your credit score before issuing you an insurance policy, offering you a job or leasing you a house. In this article, we will see the biggest factors that affect your credit score and what it means for you.
Factors That Affect Your Credit Score
Credit scores are compiled by three credit bureaus based on your credit reports. A credit score is a numerical representation of your financial management. It generally ranges from 300 to 850 (the higher, the better). The following five factors affect your credit score the most.
35% — Payment History
Payment history is the largest component that can affect your credit score. It answers the fundamental question of whether or not you can be trusted to pay back the money you borrow. It depends on the following elements:
- Has the cardholder made timely payments?
- How late were the late payments?
- Does the cardholder have any accounts in collections?
30% — Amounts Owed
The amount you owe has the second largest effect on your credit score. It depends on the below-mentioned elements:
- How much money has the cardholder used from the available credit?
- How much does the cardholder owe in total and on specific accounts? (Mortgage, auto loans and credit cards)
15% — Length of Credit History
The length of your credit history does affect your credit score more than you think. The key elements that are considered here are:
How old is the cardholder’s oldest account?
How many years has the cardholder been using credit?
When considering the length of your credit history, the best you can hope for is a long, flawless history. Having said that, a short credit history is acceptable if you don’t have a lot of debt piled up and you’ve made payments on time.
10% — Types of Credit Being Used
A combination of different types of credit is also a factor that may affect your credit score. Credit types include:
- Credit cards
- Store accounts
- Installment loans
If you do not have an account in all of these categories than it’s not advisable to open new accounts just to improve the credit score. This is because credit types have the lowest impact on your score.
10% — New Credit
The credit score takes into consideration how many accounts under your name are relatively new. Newer accounts mean the probability that you’re a greater credit risk is high. Often times people sign up for new cards when they plan on taking a huge loan or have financial issues.
Your credit score is immensely important if you wish to apply for a loan or qualify for lower interest rates. However, getting into the details isn’t going to help you. Using your credit card responsibly and keeping an eye on your credit report is bound to result in an outstanding credit score.