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Your credit rating is much more than just a number; it plays a key role in determining your financial future. Explore more real estate images. Good Credit Score/ThinkStockCredit is an essential part of life -- unless you're one of the fortunate few with enough cash. Your credit score acts like a financial health report card that lenders consult when you're applying for loans. It offers a quick snapshot that predicts your likelihood of defaulting within the next two years. Here's the inside information on what these numbers truly signify.
Who Reviews Your Credit Score
Whenever you need to borrow money, your credit score is likely to be evaluated. It's expected for discussions about your credit history when dealing with mortgages or credit cards. However, services like utilities and insurance companies also rely on your credit score to assess what type of customer you'll be. A lower score might result in a large deposit requirement for utilities or higher premiums for your car insurance. Landlords frequently review your credit before leasing to you, and sometimes even potential employers may request to see your credit score before offering a position.
It's All About the Numbers
The majority of credit agencies use the FICO formula to calculate credit scores. This system assigns each individual a score between 300 and 850, with the average score being around 720. A score between 720 and 850 places you at the top for lenders, ensuring the best mortgage and credit card rates, and giving you the freedom to shop around for the best deals. Scores ranging from 675 to 719 still allow you to secure loans, but you may face slightly higher interest rates. A score between 620 and 674 is considered below average, limiting your options and resulting in higher interest costs. Scores under 620 indicate sub-prime borrowers, marking you as the highest risk for lenders, and if you do find a lender, expect to pay a steep interest rate.
What Contributes to Your Credit Score
Credit scores are calculated by evaluating five key aspects of your borrowing history:
- Payment history
- Debt amount
- Credit history length
- Recent credit activity
- Variety of credit
Payment history is crucial, making up 35 percent of your credit score. Timely mortgage and credit card payments are essential, but even missed utility bills or unpaid parking tickets can harm your score if they go to collections. The amount you owe also plays a significant role, contributing 30 percent of your score. Your debt is evaluated based on your annual income and available credit. The length of your credit history accounts for 15 percent of your score, so the more experience you have with borrowing, the better. This is good news for newcomers to credit, provided you maintain a clean record. Lenders also assess how many new credit accounts you've opened in the past 30 days, which makes up 10 percent of your score. Finally, the last 10 percent depends on the variety of credit accounts you hold. A mix of mortgage, auto loans, and credit cards will work in your favor.
