Credit Score and How it's Calculated

When you apply for a vehicle loan or mortgage, your lender will look at your credit score to determine your risk compared to other consumers. If you know you have an excellent credit score, consider taking advantage of your excellent score, you may be able to negotiate a better interest rate.

Your credit score is a calculation from your credit report which is based on; payment history, credit utilization, length of credit history, credit diversity and number of hard inquiries. Credit Scores ranges from 300 – 900, with 300 being poor and 900 excellent.

Let’s take a look at each factor that makes up your credit report:

Payment History

Extremely important and accounts for approximately 35% of your score. Any missed or late payments may drop your score. If you are having trouble paying your bill, contact your lender right away. Even if you have to dispute a charge, it is wise to pay the bill now and resolve it later to keep your credit rating up.

Credit Utilization

Credit utilization is approximately 30% of your credit score. This is the average credit you use each month compared to the amount of credit you have available. 

E.g. A credit card with a $5K limit and average borrowing amount of $1K is 20% usage. Add up all of your available credit (credit card limits, line of credit) and try to use less than 35% of your available credit each month. Maxing out your credit cards will bring down your score. The best approach is to ask for a credit increase (but don’t increase your spending).

Credit History

Your credit history makes up about 15% of your credit score. Consider keeping that old credit card or line of credit even if you don’t use it often. If you’ve thought about closing your old line of credit due to lack of use, think again, keeping it will help to retain your credit history and also your credit utilization (the amount of money you have at your disposal versus what you are using – the higher your disposal the better).

Credit Diversity

This accounts for approximately 10% of your credit score. It’s always best to have several types of credit such as a line of credit, car loan, and credit card. This variety may improve your credit score as it indicates to the credit bureau that you are a good borrower and can handle several payments.

Hard Inquiries

Hard inquires make up about 10% of your credit score. When a lender or bank checks your credit report it is considered a hard inquiry. This may occur when you apply for any new credit.  If you have a large number of hard inquiries (hits) to your report, creditors will wonder why you are applying to so many places at once, so it is best to limit the number of times you apply for credit. If you are shopping around for a new vehicle or mortgage, try to do all your inquires within a short time-span such as two weeks so it’s deemed as one hit to your credit score.  If, however you order your own credit check, it is considered a soft hit and will not affect your credit rating.

Credit Scores

800 - 900 Excellent

720 - 799 Very Good

650 - 719 Good

600 - 649 Fair

300 - 599 Poor

Join me Next Week when I discuss how you can improve your Credit Rating

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