Understanding how your credit score is determined is the first step in establishing a healthier, higher credit rating. Scores range from 300 to 850 – with a score of 750 or higher usually resulting the best interest rates.
The most widely used method was developed by Fair Isaac Corporation known as the FICO score. While the exact calculation of this number is not known, understanding the general categories that make-up your FICO score will help you improve or maintain the highest rating possible. There are five major elements related to your credit activities that make-up your score:
1.) Your Payment History (35%)
Paying your bills on time is the most important factor when your credit score is tabulated. Obviously, a history of late payments will cause more damage than just one mistake, but even one late payment can cause significant damage.
2.) Your Outstanding Debt (30%)
The second most important factor that makes up your credit score is the debt you owe vs. your available credit. If you’re reaching or exceeding your credit limit, lenders see a potential risk of non-payment. A safe target is to maintain a debt percentage of 50% or less of your available credit. For example, if you have a credit limit of $2,000 and have borrowed $1,500 of that limit you have used 75% of your available credit. Either consider opening a new credit account or pay down some of your debt to bring it in align with the 50% goal.
3.) Length of Credit History (15%)
The more time you’ve been using credit responsibly– the more value this factor will have on your score. Not only the age of an account is considered but the last time it was used, as well. Having idle cards hanging around does nothing to raise your score regardless of their credit limit.
4.) Types of Credit (10%)
Credit cards are only one form of credit that are influential in determining your credit score. There is a positive affect in using different types of credit such as home mortgages, car and personal loans. More is not necessarily better, though, unless you use the credit responsibly.
5.) Credit Inquiries (10%)
Every time you apply for credit, an inquiry is posted on your credit report. The more often you apply the higher a risk you are considered and it may hurt your score. If you accept too many offers, there’s a fear you’ll use the available amount and undermine the calculations used to determine your ratio of debt of 50% or less. A balancing act is required in this area. The trick is to only accept enough credit to fulfill your financial needs.
Most negative items on your credit report will be deleted after seven years, which will eventually help your credit score. Bankruptcies remain for tens year and tax liens or judgements against you remain for twenty years.