A credit score is a numerical representation of your financial health. It plays a crucial role in determining your ability to secure loans, credit cards, and even rental agreements. But what affects your credit score? In this guide, we will explore the key factors that influence your credit score, how they are measured by credit bureaus such as FICO and VantageScore, and provide tips on improving or maintaining your score.
1. Payment History (35% of Your Credit Score)
What It Is:
Payment history is the most significant factor affecting your credit score, accounting for approximately 35% of your total score. This factor looks at whether you’ve paid your bills on time, including loans, credit cards, and mortgages.
How It Affects Your Score:
Late payments, defaults, and bankruptcies can have a severe negative impact on your credit score. Each missed or late payment can stay on your credit report for up to seven years, though their impact decreases over time.
Example:
If you consistently make late payments, such as missing a credit card payment by 30 days or more, it could reduce your score. Conversely, making timely payments consistently can help raise your score.
Improving Your Score:
To improve your credit score, focus on paying bills on time, even if it’s just the minimum payment. Setting up automatic payments or reminders can help ensure you don’t miss due dates.
2. Credit Utilization (30% of Your Credit Score)
What It Is:
Credit utilization refers to the percentage of your available credit that you’re currently using. It’s the ratio of your current credit card balances to your credit limits.
How It Affects Your Score:
Credit utilization accounts for 30% of your credit score. The lower your credit utilization, the better. Ideally, you should aim to keep your utilization ratio under 30%. A higher ratio signals to lenders that you may be overextending financially, which can hurt your score.
Example:
If you have a credit card limit of $10,000 and your current balance is $3,000, your credit utilization is 30%. If your balance increases to $5,000, your credit utilization jumps to 50%, which could lower your score.
Improving Your Score:
To improve your credit score, try to pay down your balances and avoid maxing out your credit cards. Another strategy is to request a credit limit increase, which will reduce your utilization ratio if you maintain the same balance. If you’re looking for ways to improve your credit score after learning about what affects it, check out our detailed guide on How to Improve Your Credit Score.
3. Length of Credit History (15% of Your Credit Score)
What It Is:
The length of your credit history accounts for 15% of your credit score and looks at how long you’ve had credit accounts open. The older your credit history, the more it benefits your score.
How It Affects Your Score:
A longer credit history shows lenders that you have experience managing credit. If you’re new to credit, it may be harder to build a high score quickly because of the lack of a long credit history.
Example:
If you’ve had a credit card for 10 years versus someone who just opened their first card, the person with the longer history is likely to have a higher score, assuming all other factors are similar.
Improving Your Score:
Don’t be in a hurry to close old accounts, as the length of your credit history plays a significant role. Even if you no longer use them, keeping old accounts open can benefit your score.
4. Types of Credit Accounts (10% of Your Credit Score)
What It Is:
This factor looks at the diversity of your credit accounts, such as credit cards, mortgages, student loans, and auto loans. Having a mix of credit types can help improve your credit score.
How It Affects Your Score:
Credit scoring models like FICO and VantageScore favor individuals with a variety of credit accounts because it suggests they can manage different types of credit responsibly. However, having too many credit accounts, especially if you can’t manage them, could hurt your score.
Example:
Someone with just one credit card might have a lower score than someone with a credit card, a car loan, and a mortgage, provided they manage all accounts responsibly.
Improving Your Score:
If possible, consider adding diversity to your credit mix. However, only take on new credit if it makes sense for your financial situation, as too many new credit accounts in a short period can have a negative effect.
5. Recent Credit Inquiries (10% of Your Credit Score)
What It Is:
Recent credit inquiries occur when you apply for new credit, such as credit cards or loans. Each inquiry typically results in a small dip in your score.
How It Affects Your Score:
When you apply for multiple credit accounts in a short time, it can signal to lenders that you’re in financial distress, which can negatively affect your score. However, inquiries from rate shopping for mortgages, auto loans, or student loans are often treated as one inquiry if they occur within a 14-45 day window, depending on the scoring model.
Example:
If you apply for five credit cards in a short period, you might see a noticeable drop in your credit score. However, applying for multiple auto loans within a couple of weeks usually has a minimal impact.
Improving Your Score:
Avoid opening new credit accounts unless absolutely necessary. Each inquiry can have a small, but cumulative impact on your score, especially if you have many in a short period.
Additional Considerations: Credit Rating, Credit Report, and Financial Health
Your credit report is a comprehensive record of your credit history, and it is used by credit scoring models to calculate your credit score. Regularly reviewing your credit report helps you identify errors that could hurt your score, such as incorrect late payments or account statuses. If you spot any discrepancies, dispute them with the credit bureaus.
Maintaining a good credit rating is essential for long-term financial health. A higher credit score typically means lower interest rates on loans and credit cards, which can save you significant money over time.
Recent Changes in Credit Scoring Models and Regulations
In recent years, credit scoring models have evolved to incorporate additional factors, such as rent and utility payments. FICO 9, for example, disregards paid collections and gives credit for on-time rent payments. Additionally, changes in consumer protection regulations have made it easier to access and dispute information on your credit report, which could help improve your score.
Conclusion
Understanding the factors that affect your credit score is essential for improving and maintaining good credit. By focusing on paying your bills on time, managing your credit utilization, and maintaining a diverse mix of credit accounts, you can improve your credit score over time. Regularly reviewing your credit report and being mindful of recent credit inquiries can also help you avoid unnecessary dips in your score.
For those looking to take control of their financial future, improving your credit score is an important step. Keep in mind that improving your score won’t happen overnight, but with consistent effort and a strategic approach, you can see positive results.
For further reading, refer to authoritative sources such as the Federal Trade Commission and FICO for more information on credit scoring and financial health.
