Confession– When I was getting out of debt, I couldn’t care less about my credit score. I just wanted to see a zero balance.
And honestly, even as we speak, I would much prefer having enough money to buy whatever I wanted than having good enough credit to borrow someone’s money to get what I want#justsayin’
But without going too far left, I am very aware of the importance and power of good credit. It is a major tool to build wealth both in your personal and business lives, especially if you weren’t born independently wealthy. And much of how wealthy business folk grow their wealth is also through exploiting their lines of credit.
So, I spent the weekend studying up on the ins and outs of credit scores to deepen my growing understanding. So as I grow, you grow. This is what I learned this weekend and I wanted to share with you.
When you hear talks about credit score, they are usually speaking about your FICO Score, even though there are other scores like the FAKO score or Vantage Score. The former is used to describe any credit score that is not a FICO score. The latter is a brand of credit score that was launched by the three major credit bureaus – Equifax, Experian, and TransUnion in March 2006.
Since the FICO score is arguably the most well-known credit score, it is crucial to know what constitutes poor, good, and excellent credit scores through the eyes of the FICO gods. The logic follows that if you focus on bringing up your FICO scores, your other scores will come up as well.
Below is a nifty chart that I pulled from www.myfico.com to help you see how a FICO score is broken down.
How a FICO Score breaks down
Here is a breakdown of what each category means:
Payment history: 35% of your score is determined by your ability to pay off your debt on time. Period. Even though a few late payments won’t completely tank your score, you want to make sure that your payment history shows that you consistently have been able to repay on time as to cancel out some of those hiccups.
Amount owed: 30% of your FICO Score. Having credit accounts and owing various amounts on them is not necessarily a bad thing. It does not necessarily signal that you are a high-risk borrower. But when a high percentage of your available credit is already in use, it could show that you are overextending yourself with respect to your spending and may wind up paying late or not at all. In addition to the overall amount that you owe, FICO also looks at the amounts that you owe on specific types of accounts: credit cards or installment loans.
Length of credit history: 15% of your FICO Score. A general rule of thumb is that the longer you have an account open, (i.e. credit history), the more likely it will increase your FICO score. So, even if you no longer use a particular line of credit, there is no need to officially close the account, especially if this account is among the oldest of accounts that you possess.
New Credit: 10% of your FICO Score. This category answers the question: “Are you taking on more debt?” FICO looks at many new accounts you have, how long it has been since you opened up a new account, how many requests you have made for new credit, visa via inquiries reported to the credit reporting agencies, and the length of time since credit inquiries were made by lenders.
Types of credit used: Approximately 10% of your FICO score. “Is there a healthy mix of credit?” That is the question that this category answers. Ideally, a healthy mix would include credit cards, retail accounts, installment loans, and mortgage accounts. If you don’t have all of these accounts, don’t go out there and apply for credit that you don’t need. This category is a small percentage of your overall FICO score, so if you are looking to improve your credit score in a significant way, looking to diversify the types of credit that you use will not be the way to go.
What is a Good Credit Score?
Once you know how it is calculated, the next step is understanding what makes for a good credit score. The FICO scale comprises numbers between 300 to 850 as indicators of the credit scores.
Credit Score Rating
760 – 849 Excellent
700 – 759 Great
660 – 699 Good
620 – 659 Fair
580 – 619 Poor
580 and below Very poor
Excellent credit scores assure best prospects of getting a loan, that includes lower interests. Even people with credit scores in a range 700 – 759 may not have any difficulty getting loans at desired interest rates. Generally, any loan application with a credit score of 720 and above is treated in a similar fashion by the lenders.
Now let’s go to the dark side. Scores below 660 are considered risky and more than likely have to bear higher interest rates, assuming that they receive the loan at it. In particular, folks with credit scores between 580 and 619 may find it difficult to get loans and even if they do, the interest rates will be very high. Just so you know, starting in 2011, every lender who either denies your application or approves you for less favorable terms is required to send a free copy your credit score, if your credit score is the reason for that decision.
Frugal Feministas: Did you learn anything new? Have you always been familiar with how your FICO score is calculated? Do you know your credit score?