What really determines your credit score?
If you’re like most people, you know a little about credit scores, but do you know enough?
If you want to improve your credit score and make the most of your financial opportunities, a little knowledge goes a long way. That’s why we want to clear up some of the confusion. Understanding what goes into your credit score (otherwise known as your FICO® score) is the first step to building a healthy financial profile.
- Payment History / Public Record – Approximately 35% of your FICO Credit Score is determined by payment history and public records. Having late payments on your record will bring down your score, and the later they are, the more impact they will have. To help you avoid missing payments, set reminders or take advantage of VNB’s automatic Bill Pay with online banking.
Public Records are judgments or actions taken against you (collections, foreclosures, liens, bankruptcies, etc.). These will negatively impact your credit score, so it is important to address them as soon as possible. If you can’t avoid a public record, or already have one in your history, they will automatically drop off after a set period (usually between 5-10 years). In the meantime, improving other areas of your credit history can help offset some of the impact.
- Credit Utilization Rate – Another influencer on your credit score is your Utilization Rate. Accounting for approximately 30% of your score, this is the ratio of your total balances owed to the total of your available credit lines. Basically, if you are using up most of your credit limit you will have a higher ratio that will negatively impact your credit. Improving your Utilization Rate is one of the fastest ways to improve your score. If you can, pay down any high balance accounts to give your credit score a quick boost.
- Length of Credit History – This accounts for approximately 15%. Lenders like to see a long credit history because it establishes your financial patterns. The credit bureaus factor in the ages of your accounts when determining your score. Opening a new line of credit will bring down your account age, which may impact your score, but it depends on your personal situation. If this new account can lower your overall Utilization Rate, it may be worth taking the hit in this category.
- Credit Inquiries – We’re sure you’ve heard that credit checks can impact your score, but did you know that there are two types of inquiries? Soft inquiries and hard inquiries. Soft inquiries are when someone looks at your score as part of a background check. This could be you checking your own score, a potential employer, or even a mortgage preapproval. Soft inquiries do not impact your score. Hard inquiries, on the other hand, are checks used for making a lending decision. These typically occur when you apply for a credit card or loan. Hard inquires reflect approximately 10% of your overall score. A hard inquiry can negatively impact your score, although usually not that much.
If you have a high number of inquiries and a short credit history, you could see more of an impact, so it’s important to pay attention to your personal history when considering applying for new credit. Lenders understand the value of rate shopping and don’t penalize you for doing due diligence. The credit bureaus look out for this kind of activity and will generally lump multiple inquiries over a short period of time into one hard inquiry. Check with the credit bureau for specific time frames before rate shopping.
- Types of Credit – All credit is not created equal. The final factor accounting for approximately 10% of your credit score is whether you have a mix of different types of credit, such as credit cards, store accounts, installment loans and mortgages. The “mix” also includes the total number of accounts you have. There is no need to be concerned if you don’t have accounts in each of these categories, and it is certainly not necessary to open new accounts just to increase your credit mix.
Improving your credit score
There is no quick fix for a low credit score. Be cautious of credit clinics that claim otherwise. The best way to improve your credit score is to make your payments on time, maintain as low a utilization rate as possible, and be smart about applying for new credit. You should also check your credit score about six months prior to making a major purchase requiring a loan. This will give you enough time to correct as best possible any errors or other factors that may be dragging down your score. It takes a little patience, but doing this will send you on your way to a higher credit before you know it.