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The better your credit score, the more likely you are to be approved for a loan or a new credit card. And the more likely you are to get more favorable terms and rates, and better credit card rewards. And the fist step to improving your score is to understand the factors that most affect your credit score, and try to improve them.
There are hundreds of credit scoring models. But the one most widely used by lenders is the FICO score. More than 90% of lenders in the United States use the FICO credit score to evaluate potential borrowers. Your FICO score can range from 300 to 850 based on information from all three credit bureaus: TransUnion; Equifax; and Experian.
While the exact algorithm FICO uses isn't revealed, the five main factors that make up your credit score are known, and discussed below.
Factors Affecting Your Credit Score
Note that the importance of these five factors do vary.
For instance, if you have a very limited credit history, the information on your credit report will be considered differently than that of someone with a very lengthy credit history. But the factors below should serve as a general guide when trying to find the levers that will best improve your credit score.
1. Payment History: 35% of Your Score
The biggest component of your credit score is how you have paid your credit accounts in the past. Accounts that will be considered include installment loans like car loans, retail accounts like store credit cards, credit cards, finance company accounts, and mortgages.
Payment history factors that can negatively impact your credit include:
- Late payments
- Collection accounts
- Public judgments
- Wage garnishments
The details of your late or missed payments, collections, and public records matter. Your score will take into account:
- The number
- How recently they occurred
- The amount owed
- How late the payments were
The older the late payments or derogatory marks, the less impact they will have on your credit score. And most derogatory items are supposed to be dropped off your report within 7 years.
Need help removing old items from your credit report? Read our review of CreditRepair.com and see if they are the solution to your problem.
Tips To Improve Your Credit Payment History
Make sure your bills are paid on time. Schedule reminders or automatic payments if it helps.
Check your credit report and make sure any derogatory marks are legitimate. Dispute incorrect late payments, accounts that do not belong to you, or collections or late payments that should have dropped off your report.
2. Credit Utilization: 30% of Your Credit Score
The second-biggest component of your credit score is how much you owe compared to your available credit. This is often referred to as your "credit utilization ratio".
If you are using a large percentage of your available credit, lenders may view it as a sign that you are experiencing financial difficulties. Your credit score will consider the overall amount you owe as well as how much you owe on specific account types like credit cards.
Tips to Improve Credit Utilization
Aim for no more than 30% utilization of any one credit card and no more than 30% of your total available credit. If possible, get your utilization ratio down to 10% or less.
Your actual account balance is not always what gets reported to credit bureaus. Most credit card companies report your statement balance, which means your credit can be hurt even if you pay off your bill in full each month. Make a goal of not charging more than 30% of your credit limit in any given month.
Having $0 balances on your credit accounts isn't the best way to improve your credit score. It's better to have a low credit utilization ratio than having a high one or no credit utilization. This is because lenders want to see that you can use credit responsibly.
Want more tips to improve your credit utilization ratio? Then check out this article on Mastering Your Credit Utilization Ratio.
3. Length of Credit History: 15% of Your Score
The longer you have maintained a credit history, the better your credit score, all other factors aside. This aspect of your credit score considers:
- How long it has been since you used each credit account.
- The age of each individual credit account.
- The overall age of your credit history.
This is why it's important to keep your accounts active. To do this, use your credit cards at least once every few months.
For this portion of your score, FICO also considers the average age of your accounts, the age of your oldest account, and the age of your newest account. This is one reason applying for a new credit card can ding your credit. It reduces the average age of your credit history.
Tips to Improve The Age of Your Credit History
Keep your credit accounts active by making small charges every month or two and paying off the balance.
Do not close credit card accounts you no longer use (unless you don't want to pay an annual fee). These accounts contribute to the age of your credit history.
4. Credit Mix: 10% of Your Credit Score
This factor looks at the types of credit you are using. Lenders want to see that you have experience with a variety of credit types.
Your FICO score will consider your mix of retail accounts, installment loans, auto loans and leases, credit cards, finance company accounts, mortgage loans, and more.
Tips to Improve Your Credit Mix
You don't need to have one account of each to do well in this area. FICO says that credit cards and installment loans with strong payment histories boost your score the most.
5. Extent of New Credit: 10% of Your Credit Score
Opening several new accounts within a short period of time represents a risk and a red flag to lenders, who may assume you are having a financial problem. Even applying for new credit will impact your credit score as lenders will pull your credit report with a hard inquiry. Hard inquiries remain on your credit report for two years.
Tips to Improve Your Extent of New Credit
To keep this factor high, just avoid applying excessively for new credit. For instance, you might not need to open three new store accounts in the same month - even if it means foregoing some instant savings.
Tips About Shopping for Credit
The FICO scoring model treats mortgages, car loans, and student loans differently than other credit inquiries.
For these loans, all inquiries made in the 30 days before scoring will be ignored. If you find a loan within 30 days, the inquiries will not impact your credit score while you shop for the best rate.
After the 30 days, these rate-shopping inquiries will be considered a single inquiry.
Credit Score Resources
Of course, before you get started on improving your credit score, you will want to know where you stand today. You can find resources (including free ones!) to get your credit score in this article.
Start out by ordering your free credit report at AnnualCreditReport.com. From there, look for items that don't belong on your credit report. (Not sure how to read your credit report? Check out our post on How to Read and Understand Your Credit Report.)
Looking to clean up your credit report and improve your score? Then check out this article on How Credit Bureaus Handle Disputes.
And good luck in improving your credit!