Your Credit Score: What Is It and Why Is It Important?
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Your Credit Score: What Is It and Why Is It Important?
Everyone’s credit is measured and scored. The FICO score is the most commonly used credit score. It is a three-digit number that falls between 300 and 850. The higher the number, the more confidence lenders have that a person will be able to repay their debt on time.
Things To Know
- The higher your FICO score, the more confidence lenders have in you.
- You can request a free credit report once every 12 months from each of the three credit bureaus.
- If your risk profile shows that you are a high risk, you may be denied credit.
How your FICO score is weighted
About 50% of people have scores of 700 or more. At 670 or higher, a person is considered a safe risk and typically receives a loan without a problem and at a low interest rate. The FICO score is calculated as follows:
- 35% payment history. Having a long history of making payments on time and no missed payments on all credit accounts is one of the top things that creditors look for.
- 30% amount owed. This area measures the amount someone owes compared to all of the credit they have available to them. If a person is very close to the limit on all lines of credit, they can be deemed a potential risk in the ability to repay their debts on time.
- 15% length of credit history. In general, a credit report containing a list of accounts opened for a long time will help a person’s credit score. The score considers one’s oldest account and the average age of all accounts.
- 10% new credit. Opening several new credit accounts in a short period of time can result in a lowered credit score. Multiple inquiries into your report can mean a greater risk, but this does not include any requests made by the individual, an employer, or a lender who does so when sending the individual an unsolicited, "pre-approved" credit offer. Also, the score counts multiple inquiries in any 14-day period as just one inquiry.
- 10% types of credit in use. A person’s mix of credit cards, retail accounts, finance company loans, and mortgage loans is evaluated.
Your credit profile matters
Using information from your credit history, creditors use a mathematical program that measures your probability of being a good credit risk. This profile compares you to others of the same financial profile to determine how much of a credit risk you pose. If your risk profile shows that you are a high risk, you may be denied credit. You may also be denied credit if you have no profile. Some advisors recommend that young adults establish a credit history by making credit card purchases and paying them immediately to generate a favorable credit record.
Credit is an important tool that lets us acquire goods and services we need immediately when we may not have the cash available. It should not be used to make impulse purchases, since the interest and finance charges greatly increase the cost of those purchases. Irresponsible use of credit could lead to financial hardship and may result in bankruptcy.
Landlords and potential employers can legally request your credit report if they are engaged with you. Having a good credit report will only benefit you in these situations while a poor credit report may cause concern as to your reliability as a tenant or employee.
Benefits of a high credit score
Most of us will need to borrow money for many of the major purchases we make. Having a high credit score means our loans will have lower interest rates than the loans of individuals with lower credit scores. For example, if you were to buy a new car for $20,000 and you financed it with a 5-year loan, look at the table below to see how different credit scores impact the total interest paid on a car loan. You can see how much money a higher credit score will save you.
Get your credit report periodically
If you are denied credit or a job based on information contained within a credit report, you are entitled to a free report of the credit report that was used to make the determination of your denial if you request this report within 60 days of the denial. Additionally, you can request a free credit report once every 12 months from each of the three credit bureaus reporting companies at annualcreditreport.com. You should request a report from all three credit bureaus, as they may contain different information about you. Equifax offers a combined report from all three agencies—and consumers can also request a copy of their FICO® score for a small fee.
