Credit scores can be a sore subject for many people. People often are surprised to find out their score is lower than expected, mainly because they simply don’t know what all their score is made of. When it comes to managing your money and staying out of debt, the best tool you have is to know exactly how your credit score is calculated.
All The Pieces
In general, a credit score is calculated from five areas of your financial history.
About 35 percent of your credit score; it reflects whether you pay on time, have missed any payments or have any delinquent accounts. It includes past due balances and the amount of time an account has been delinquent. It also notes negative remarks such as bankruptcy filings, settlements or garnishment orders.
* To improve your score, always pay on time or arrange a payment agreement with your creditor before you miss any payments.
Amount of debt owed
Accounts for 30% of your credit score; is the total amount of debt for all your accounts. It includes mortgages, car loans, medical debt and credit cards. It also includes the percentage of actual debt in relation to approved line of credit. For example, if you owe $5,000 on a line of credit with a $10,000 maximum, you would be using 50% of your credit line.
*To improve your credit score, lower the amount of total debt you owe and the percentage of debt to below 20% of the total credit line.
Length of credit history
Makes up 15% of your score; it refers to the amount of time you have had active credit lines. Having no credit history can lower your score as much as a poor credit history.
* To improve your good score, maintain two or more sources of open credit lines with manageable balances.
About 10% of your overall score; it refers to your most recent credit history. It includes lines of credit that are less than a year old, the number of inquiries have been made on your credit standing and how long it has been since any new credit information was reported to credit agencies.
* To improve your score, make sure credit agencies update your information six to 12 months and limit the amount of unnecessary inquiries into your credit.
Types of credit
refers to the types of debts you owe, such as secured or unsecured debts. Unsecured debts such as credit cards make lenders more cautious as they have less recourse for collection if you default; whereas a secured debt, such as a mortgage or car, has collateral that can be collected in the event of default.
*To improve your score, keep at least one secured loan or line of credit open.