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Know the ins and outs of your credit score
There are lots of numbers to know when it comes to your finances. One of the most important? Your credit score. But what exactly makes this magic number so…magic? Read on to get the inside scoop on this financial figure.
What is your credit score?
Whenever people talk about your credit score, they’re talking about a three-digit number ranging from 300 (not so good) to 850 (very, very good) that shows how well you manage credit—and helps lenders determine whether they’re willing to lend you money (and how much). Think of your score like a grade: it’s based on a few calculations and the higher, the better.
Where credit info is gathered
“There are three different agencies your information gets reported to: Equifax, Experian and TransUnion,” says Vanessa Owens, Community Mortgage Sales Manager at TD.
“When you’re applying to obtain credit, lenders look at what your bank and credit card companies report to those agencies. This gives them a better understanding of your behavior and helps them see if you’ve been paying on time,” says Owens.
And while there are a few types of credit scores out there, you shouldn’t get too hung up on trying to differentiate between them. Practicing good financial habits will keep all your scores in a good place.
Getting a "good" credit score
“Most lenders use what’s called the FICO score, which ranges from 300 to 850," says Owens. "And a good credit score typically falls in the range of 670 to 739.” FICO stands for the Fair Isaac Corporation and involves the use of specific algorithms to determine your credit risk.
So, why should you aim for this “good” range, anyway? Short answer: better opportunities. A low credit score (typically below 670) can come with some challenges, like higher interest rates for loans and credit cards. Sometimes, it’s even difficult to secure insurance, school loans, a place to rent and utilities with a low score.
But if your score isn’t where you want it to be just yet, no need to panic. “While anything below 670 is not considered a great score, that does not mean you’re unable to attain financing,” says Owens. And, just like a school grade, you can always work to get those numbers up.
How your credit score is calculated
Knowing the ideal score is a great start but knowing how to get there's even better. “There are five things that impact your score,” says Owens.
- Payment history: Paying bills on time influences about 35% of your score.
- Credit history: Keep old accounts open to show you’ve had established credit for a while.
- Credit usage (credit utilization): Aim to use less than 30% of your available credit.
- Mix of credit: Managing different kinds of credit shows responsibility.
- New credit: Avoid applying for several types of credit at once. Each inquiry can knock several points off your score, and applying for too much in a short period of time can make you seem like a risky borrower.
Another good reminder: keep an eye out for credit dings. Owens says, “A lot of people don’t understand that applying for loans actually causes a hard hit to your credit score.” Things like credit inquiries and loan applications can put a ding in your score if you’re not careful. Plus, try not to rack up those credit card charges, and keep your spending in check. This can all help improve your credit score in the long run.
Ways to check your score
“If you have a creditor, you should check with them first because a lot of them are now providing free credit scoring,” according to Owens. So, you might be able to find your score on your credit card statement or online account. And if you’re in the US, you’re entitled to one free credit report every year and can request this at annualcreditreport.com. You can also purchase your scores from one of the three main agencies mentioned earlier or opt for third-party services. Worried checking your score will lower it? Don’t be. Despite what you may hear, if you check your score on your own, this is only considered a “soft inquiry,” which will not affect your credit.
Here’s another credit score factoid to bust out at dinner parties: Your credit score might be different across those three main agencies. It’s totally normal—kind of like different teachers in junior high having different grading rubrics. Both short-term behaviors (think opening a new account or paying your balance for the month of June) and long-term behaviors (like simply having a credit line open for many years) impact your score.
Lenders also decide which info to report to which agencies, so this contributes to those minor differences as well. Don’t worry if your score fluctuates a bit or seems a bit inconsistent over time—that’s likely normal, too. But, if you see anything that looks off, make sure you check into it right away.
Understanding your credit report
While the word “report” may bring you back to your school days, there’s nothing to stress about (and no tests to take). Your credit report includes personal information, credit history and recent inquiries. Most importantly, it’s used to help determine your credit score. So, checking it regularly can give even more insight on where you stand.
Credit scores aren’t as mysterious as they might seem. Once you pull back the curtain, you’ll learn how they work and discover what you can do to improve your score (or keep it in a good place). Understanding your personal situation and taking action is where the true magic lies. Lower interest rates, the potential to save money, more rental opportunities, higher credit limits—putting in the work is worth it for the big reveal.
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This article is based on information available in February 2022. It is for general informational purposes only. It is not intended to provide specific financial, investment, tax, legal, accounting, or other advice and should not be acted or relied upon without the advice of a professional advisor. A professional advisor will recommend action based on your personal circumstances and the most recent information available.