A FICO credit score is a statistical number calculated from your credit information. It provides an “unbiased and proven way to evaluate a consumer's credit risk — helping consumers like you obtain credit more quickly and fairly.”* The major three bureaus (Equifax, Experian, and TransUnion) generate a separate credit score, each being slightly different due to data variances in the credit reports.
Credit Score Breakdown
There are five (5) main factors that make up your credit score. The list below shows their levels of importance:
Payment History (35%): On-time/late payments, tax liens, collections, judgements, foreclosures/forbearance, bankruptcies, etc… All play a major role in calculating your FICO score.
Accounts Owed (30%): Total outstanding balances on accounts. Let's say your credit card is good up to $1,000. If you owe an average balance of $400 or more on that card, then it is possibly restricting the best score you could have. However, the longer you have that card and make payments on time, the less the greater-than-40%-balance will affect your score. Our suggestion is to always try to keep the balance at 40% or less. It is also considered a best practice to simply pay it off at the end of every month.
Length of Credit History (15%): The longer your history, the better. Of course, lenders do still want to see on-time payments, but longevity is important.
New Credit (10%): This refers to inquiries and/or applications for new credit accounts. Applying for new credit says to the credit model that you need it, want it, and that you are about to go further in debt - all of which reduces your score. Remember, only apply for credit if you truly need it, AND use it wisely!
Credit Mix (10%): Your mix of credit cards, retail accounts, loans, etc. If you have several credit cards, no mortgage, and no car loan, the bureaus see you as a higher risk than someone who has a home loan and car loan. Their methods may not be politically correct, but if you don't own any real assets and have high revolving debt (credit cards), then you are considered a higher-risk borrower.
What is the range of credit scores?
Credit scores can range from 300 – 850 for mortgages and a few other loans. However, credit cards, auto loans, refrigerators and the like range from 250 – 900. The higher your score, the better financing options will be available to you. So, it does pay to be on time with payments and conservative when opening new lines of credit.
What can I do to manage/improve my credit score?
Pay down your credit account balances at/or below 40% of the overall credit limit
Make sure the information on your credit report is correct; it is common to see 10% or more of the information on your report is inaccurate which truly affects your score
If there are errors, request these items be removed or corrected directly from the bureaus themselves
If you are in the middle of/or applying for a home loan, your mortgage professional will knowhow to do a rapid rescore (may cost a few bucks) but can be done within/around 72 hours
Consider opening one revolving credit account to raise your available credit, but don't use it; many department cards are easily obtained (like Target) or start a free account on Experian.com – where they offer different cards that you qualify for
If you're in credit trouble, call creditors directly and work with them on a doable payment plan
Use only legitimate credit counselors (never pay any upfront fees) to avoid bankruptcy
What do I need to avoid to keep a good/healthy credit score?
Don't shift balances from one credit card to another. Often, we are offered zero interest cards for 12 months. We understand how tempting this can be, but opening new accounts and closing other accounts is tough on your credit score. (Remember: “… longevity is important.”)
Don't close accounts. This decreases the total credit available, meaning the amounts owed become a higher percentage of your available credit. That's hard on your score as well. (Remember: “… at/or below 40% of your overall credit limit.”)
Don't open a lot of new accounts in a short period. Only open accounts when you need them and not in excess! (Remember: NewCredit = 10%)
Don't file for bankruptcy — it will have a lasting, negative impact on your credit score. Consulting an attorney to know your options is always prudent and to better understand if bankruptcy isn't avoidable. Of course, life happens. Filing for bankruptcy will cause your credit score to suffer, but better to rip off the band-aid now than let the festering wound eventually take your entire arm. Just saying.
Don't fall for companies or credit counselors who claim they can "erase your debt" or fix your credit simply by filing disputes with the credit bureaus. Let's face it, if that were true, we would all have excellent credit scores.
We all known people that say, "I/We pay cash for everything.” Great! But remember, your credit score is for more than just getting a loan. When you rent an apartment, they check your credit. When you rent a car, you need a credit card; you can simply use a prepaid card to get your credit-score ball rolling. We’re sure there are many other examples, but the point is - why limit yourself? Build good credit, take advantage of the funding available to you, and make your promised payments on time. Yes, sounds easy, and it is - if you plan ahead and manage before drowning in debt. If you have any more questions on your credit score - and its effects on your home-buying experience, please feel free to contact us.