Your credit score is an indicator of your financial wellness and responsibility. We have outlined how credit scores are calculated, why it matters and steps to take to improve your score.
How is my credit score calculated?
The three major credit bureaus in the U.S. collect and share information on a person’s credit usage with potential lenders and financial institutions. Most lenders use this information and the FICO scoring model to calculate credit worthiness. Some use the VantageScore model instead. Both scoring models look at the following factors when calculating credit scores:
- The age of your credit. A longer history of credit usage boosts your score.
- The timeliness of your bill payments. Chronic late payments can drastically reduce a score.
- The ratio of outstanding debt to available credit. The VantageScore formula views having a lot of available credit as a liability, while the FICO formula considers this a favorable point.
- The diversity of your credit. Lenders want to see that you have several kinds of open credit.
- The trajectory of your debt. Are you constantly accumulating new debt, or working toward paying down your existing debt?
- Your credit card usage. Financial experts recommend having several open and active credit cards to boost your score.
How does my credit score affect my life?
Here are some ways your credit can affect your life:
- Loan eligibility. Lenders check scores to determine whether you will be eligible for a loan. A poor credit score can keep you from buying a house or car or getting other types of loans.
- Interest rates on loans. A higher score can get you a lower interest rate on a loan, and a poor score can mean paying thousands of extra dollars in interest over the life of the loan.
- Employment. Many employers look at the credit scores of potential employees as part of the hiring process.
- Renting. Lots of landlords will run credit checks on new tenants before signing a lease agreement.
- Insurance coverage. Most insurers will check your credit before agreeing to provide you with coverage.
How to improve your credit score
- Pay your bills on time. If you find timeliness to be a challenge, consider automatic payments.
- Pay more than the minimum payment on your credit cards. This shows you’re working on paying down your debt and can help improve your score.
- Pay your credit card bills before they’re due. This way, more of your money will go toward your outstanding balance instead of toward interest.
- Settle outstanding medical bills. These can significantly drag down your credit score.
- Consider debt consolidation. If you’re paying interest on multiple debts each month, you may benefit from transferring your debt to a single credit card that offers an introductory interest-free period or from taking out an unsecured loan.