What's your credit score? If you think you know a single answer to that, you're probably wrong. Because most consumers have ... well, a score of credit scores – often more.
Don't worry if you didn't know that. Everyone recognizes that credit scores are important to financial well-being, but few know much detail about them. And there are many misapprehensions surrounding them.
What Does "Credit Score" Mean?
A credit score is just a numerical value put on the contents of your credit report. The higher your score, the more creditworthy you're likely to be.
It takes a very sophisticated algorithm running on high-powered IT systems to calculate a score fairly, because each entry on your credit report is given a numerical value, which changes over time. Those entries could include:
- Loans you've taken
- Loans you've applied for, whether or not successfully
- Payments you've made
- Late or skipped payments
- Balances on loans
- Adverse court judgments
Damaging entries are usually deleted from your report (and will stop affecting your credit score) after seven years, though really serious events, such as bankruptcies, can stay on for ten years. However, those clever scoring algorithms will place more emphasis on recent bad behavior, and older credit "misdemeanors" should fade in importance as months and years go by until they finally disappear.
What Affects My Credit Score?
The things that affect your score are, in order of importance, your:
- Payment history – Late payments harm your score, skipped ones are worse.
- Amounts owed – This mostly applies to credit cards, and, for the best scores, balances should be below 30 percent of credit limits.
- Types of credit in use – It's good to have a mix of revolving credit (mostly credit cards) and nonrevolving (installment loans such as mortgages, personal loans, home equity loans, and auto loans).
- New credit – The average age of all your accounts: the older, the better.
Should I Monitor My Credit Score?
There are two main companies that create those credit scoring algorithms – FICO and VantageScore. And there are three major consumer credit bureaus, Equifax, Experian and TransUnion, each of which uses scoring technologies slightly differently. Some types of lender (those providing mortgages, say, or auto loans) want to place more emphasis on some aspects of your credit report than others, and they use scoring algorithms that are tweaked to meet their needs. And some lenders don't want to go through the expense of upgrading their IT systems, and use old versions of the FICO and VantageScore applications. Now you can see why some consumers have 40 or 50 credit scores each.
But don't worry. All credit scores are based solely on the contents of your credit report, so variations between them are likely to be fairly small. And, if one of your credit scores goes up or down in a month, the chances are the others are going to move to a similar extent in the same direction.
So it's well worth actively managing your score, and that begins by constantly monitoring it. Nowadays, you can do that at absolutely no cost by subscribing to a free credit score service, such as the one offered by LendingTree.
How Do I know if My Credit Score is Good?
You already know that the higher your personal number, the better. But what are commonly used credit score ranges? Well, here's how credit bureau Experian defines different VantageScore 3.0 ranges:
- Super Prime 781-850
- Prime 661-780
- Near Prime 601-660
- Subprime 500-600
- Deep subprime 300-499
FICO doesn't necessarily use those terms, and employs different ranges for its standard scores:
Presumably, those with scores in the 300-619 range might find it difficult to get approved for mainstream borrowing. And it's important to remember that any lender can use any range and define it any way it wants.
However, at the time of writing, FICO suggests that someone in that top tier (760-850) might qualify for a 30-year fixed-rate mortgage at 3.662 percent APR, while someone in the lowest tier listed (620-639) might have to pay 5.251 percent APR. On a $150,000 mortgage, that difference could cost you $50,830 in extra interest over the lifetime of the loan. On a $20,000, 36-month, new auto loan, the difference in interest between those in those top and bottom tiers could be $4,823.
Wow! So the answer to that question is: You know your credit score is good when it's as high as you can get it, and you're thus paying the least interest possible. And remember, lenders are generally extremely keen to lend to those in the top tier or two, so, if you push your score way up there, you can negotiate hard over the terms of your loan.
What Can I Do if My Credit Score Is Bad?
Having a low credit score can blight your life. Not only might you find it difficult to borrow at sensible interest rates, you might find it difficult to borrow at all. And some insurers now check customers' scores when they set premiums for home and auto cover. Worst of all, many employers check credit reports (not scores, but the two are closely linked) before hiring new employees or promoting existing ones.
It's well worth actively managing your credit, starting with signing up with a free credit score service.