Your credit score is a crucial tool that lenders use to decide whether to extend credit to you and at what interest rate. Understanding the key factors that influence your credit score can help you improve it, potentially leading to lower interest rates and better financial opportunities. Let's break down these five key factors.
One of the most significant factors that determine your credit score is your payment history. This includes the punctuality of your payments on credit cards, mortgages, and loans. Late payments, defaults, bankruptcies, and collections can significantly drop your score. Therefore, making payments on time is important to maintain a good credit score.
Credit utilization ratio
The credit utilization ratio measures how much of your available credit you're using. A lower ratio is better for your credit score. Try to keep your ratio below 30% to avoid negatively impacting your score.
Length of credit history
The length of your credit history also plays a significant role in your score. This includes the age of your oldest credit account, the average age of all your accounts, and the age of your newest account. Generally, a longer credit history will improve your credit score.
Types of credit used
Having a variety of credit types can improve your credit score. These can include credit cards, retail accounts, installment loans, mortgage loans, and finance company accounts. However, this doesn't mean you should open accounts unnecessarily. It's more about demonstrating your ability to manage different types of credit responsibly.
New credit inquiries
Applying for new credit can result in a hard inquiry on your report, which may lower your score. Multiple hard inquiries in a short time can negatively impact your score and make you appear risky to lenders. To maintain a good score, you should apply for new credit sparingly.
Now, let's take a look at each of these factors' contribution to your FICO score in the table below:
As you can see, payment history and credit utilization make up a majority of your credit score. Therefore, it's crucial to focus on these areas if you're looking to improve your score. Understanding these factors can help you take charge of your financial health and can potentially lead to better loan terms and lower interest rates in the future.