People often ask how their credit score is calculated and why they have a different credit score from each of the 3 credit bureaus (Experian, Equifax and Transunion).
Nearly everyone has heard the term FICO and believe there to be just one way a FICO score, or credit score is calculated. That’s not true. The company that came up with the FICO scoring method (Fair Isaac Corporation) has actually released several versions of the scoring model. And, other models exist such as the VantageScore model. Then of course, just to complicate it even more the 3 credit bureaus use variations of each.
On top of that you must realize that creditors do not report to all 3 credit bureaus in many cases. Why, because it costs them money to report to the bureaus. This is not a free service offered. Make no mistake. The credit bureaus are billion dollar companies making huge profits on being a receptacle for your information and selling that information to large corporations that want to advertise to you, and need to pull your credit report to evaluate your credit worthiness in order to sell to you. Therefore, a creditor may decide to only report to one or two of the bureaus. This will create even more of a difference of your score from bureau to bureau. Don’t let all this confuse you. Keep it simple and pay attention to what you can control, and control it well. Here is what really matters regarding your credit score and the weight applied to calculating your credit score.
Payment History- 35% of your credit score
- Current payment record on car loans, mortgages, installment loans, retail accounts, credit cards. What you are looking for is a “paid as agreed” status
- Public records such as bankruptcies, foreclosures, liens of any kind, judgments,
- Past due amounts listed
- Any past delinquencies even if the balance is now current or the account is closed with a zero balance
Good Credit Habits:
- Pay your bills on time or even ahead of time. Recent late payments can impact your score dramatically. Paying ahead of can result in lower balances being shown on your report.
- Get any past due accounts current.
- Closing accounts with a good history may also impact your score. Think carefully before you close accounts.
Balances Owed- 30% of your credit score
- The ratio of the balance you owe versus your credit limit on each account and in total will dramatically affect your credit score
- Debt usage
Good Credit Habits:
- Keep balances owed on credit cards and store accounts low. There is conflicting advice on this but never be above 30%. (Example Utilization: $1000 limit balance not more than $300)
- As stated above, if you pay your credit card payments before they are due and pay them in full you’ll be able to show a zero balance each month.
- To show a low utilization or a $0 balance make your payment before the statement balance (contact your credit card company to get your state close date and reporting cycle)
- Negative items that could lower your score: Things that will make you look like a high credit risk, like having maxed-out credit cards or too many accounts with high balances.
Length of Credit History- 15% of your credit score
- Track record or age of existing accounts (the longer the better)
- Number of recently opened accounts
- Time since the latest account activity
- Ratio of new credit versus established credit
Good Credit Habits:
- If you do not have a credit history be careful not to open too many accounts quickly. This can be perceived as a risk factor.
- If you are trying to establish or re-establish a credit history, open an account and use it wisely. Pay it off each month. Then open a second account several months later and do the same.
- Stay away from consumer finance companies if possible. Future creditors know that they lend to consumers with less than perfect credit.
- Consider a secured credit card that reports to all three bureaus
- Don’t open new accounts just because you can. This can actually lower your score
- Paying off debt is good but think carefully before you close account you loosing the history (consider the revolving open zero balance vs a closed account)
Types of Credit- 10% of your credit score
- The number and type “credit mix” of accounts you have opened
- Trade lines revolving accounts credit cards and department store card
- Installment loans fixed payment like mortgages, home equity, auto, student loans and personal loans
Good Credit Habits:
- Because this accounts for a small percentage of your overall score don’t open accounts just to open accounts.
- It is good to have a credit card. Do not shy away from opening a secured or unsecured credit card account because you had problems in the past. Open an account and use it only for items you need anyway such as groceries, gas, etc. Then pay it off every month.
New Credit and Credit Inquiries- 10% of your credit score
- Recently opened accounts versus the number of inquiries by potential creditors
- Time since the inquiries
- Time since account was opened
Good Credit Habits:
- The two type of inquiries “soft and hard” you need be concerned with “hard inquiries”. These are inquiries you authorized to be made for the purpose of evaluating you as an applicant for credit.
- Excessive inquiries in a short time can cause your score to go lower. If you are denied credit by one company do not apply at 5 more companies to see if they will give you credit. This will show up as potentially excessive.
- When trying to buy a car, dealers may contact several finance companies within a day or two to see if they can find one to give you a loan, or the best deal. This can cause your score to go lower in some scoring models. Others give you a period of days for these type inquiries. Before walking into a dealer to buy a car go to your bank or credit union and see about a loan from them. This will allow you to walk into the dealership with financing in place.
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