Most people have heard of the FICO score, but don't really understand what it is. This is the mysterious score that creditors and lenders talk about in regards to credit approval. What exactly is this score and how is it determined?
The FICO score is named after the Fair Isaac Corporation, which is the organization that developed the score. It is a three digit number that determines how worthy an individual is of receiving a line of credit. The score ranges from 300 to 850. It is used by the three major credit bureaus, Experian, Equifax and Transunion, as the main method of scoring credit.
The exact formula that is used to come up with the FICO score is owned by the Fair Isaac Corporation, and is not public knowledge. However,the components of your credit history that are used in calculating your score are known:
Payment history 35%
It is important to lenders to know how responsible you are in paying your bills in a timely manner. Therefore, your payment history makes up the largest part of your credit score. Late payments, collections and bankruptcies can all have a negative effect on your credit score. The more recent the transgression, the more negative the effct is on your score.
Credit Utilization 30%
Credit Utilization refers to the ratio of the amount you currently owe to your total credit limit. If all your credit cards are fully maxed out, your score will be lower. The best rule of thumb to follow when it comes to credit utilization is to keep your credit card balances below 30% of your total credit limit.
Age of History 15%
The longer you've had credit the better it looks for you and the more it will positively effect your score. Creditors look at the length of your credit history to better predict what your future credit actions might look like.
Types of accounts 10%
The type of accounts you have is important. While there is no perfect formula for the kinds of credit accounts you should have, it is good to have loans as well as revolving credit. This part of your score plays a larger role when you don't have a lot of other information in your credit report.
Inquiries 10%
Submitting a lot of applications for credit cards or loans in a short amount of time creates multiple inquiries on your credit report. To a creditor, this could look like you are taking on a lot of debt or you are in financial trouble. Neither of these possibilities is desirable from a lenders point of view. The more recent the inquiries, the more of an affect they will have on your credit score.
If you are looking for ways to improve your credit score, these five areas are the ones for you to focus on.
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