Understanding Your Credit Score & It’s Importance
Credit scores exist to determine how much risk potential borrowers carry. Before the establishment of credit scores, it was up to loan officers to decide whether someone was creditworthy. The credit score made it possible for lenders to make decisions more objectively.
Your score is important because it determines a lot more than what loans you can get. Insurers use scores to set premiums for auto and homeowner’s coverage, while landlords use them to decide who gets to rent their apartments. Low scores might cause you to miss out on financial opportunities or pay more. So, maintaining a high score can help you leverage great deals on loans, credit cards, insurance premiums, apartments, and even cell phone plans.
Lenders use a number between 300 and 850 to determine how likely you are to repay debt, this is your credit score. A higher score indicates that you are good at managing your money while a lower score alerts to possible risk. Experian, Equifax, and TransUnion are the three major credit bureaus. FICO, a data analytics company that uses information provided by each credit bureau, creates your score. Establishing good credit takes time and there are many factors that affect your credit score.
FICO weighs five different factors when determining your credit score:
- Payment History: Paying your balance on time each month.
- Credit Utilization: The percentage of available credit that is actually being used.
- Length of Credit History: The length of time you’ve had credit.
- New Credit: Applying for or opening multiple accounts in a short period of time
- Mix of Credit: Having different types of credit- such as a mortgage or car payment.
Your credit score will respond favorably to behavior patterns that indicate responsible credit management but if you find yourself with a low score there are always ways to improve. Paying your bills on-time, carrying balances of less than 30% of your borrowing limits, and taking out only as much credit as you need are all great ways to make sure your score stays high.
Your financial wellness can’t be entirely summed up in a three-digit number, but understanding what factors determine your score and its importance are sure ways to help you build a healthy financial future.