How a Credit Score is Calculated

Credit scores are one of the most important numbers that follow consumers throughout their lifetimes. Unfortunately, they're almost impossible to understand. Your credit score can affect the interest rate you pay on your mortgage, whether you can receive a loan for a second or third car, and even the premium you will pay to insure that car. While there is no set formula made available to consumers to figure out their credit scores, there are rules of thumb that consumers can follow to keep their credit scores high. All consumers, especially those needing credit rating help, should check their credit report and credit score at least once a year. All credit scores range from 300 to 850; consumers who have a score of 700 or higher receive preferable interest rates and loan programs.

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Determining your credit score

Every consumer's credit score is different because there are many factors that go into determining a score. Below are rules of thumb as to the importance that certain factors have in determining your score. Remember that while these are general guidelines, not all credit scores are determined this way. Your personal credit history or your income could affect how your score is calculated.

• Payment history, 35% of your score: More than a third of your score is based on payment history. This is one of the reasons it is so important to pay all of your bills on time. Even one mistake could hurt your score, depending on the creditor. To make the most of this aspect of your score, set up automatic payments or deductions from your checking account, or set calendar reminders for due dates. If you cannot make a payment on time, call your creditor. You may be able to make an arrangement that will not hurt your credit score and will keep your account in good standing.
• Amounts owed, 30% of your score: Credit agencies like low balances. As a rule of thumb, you should carry a balance of no more than 30 percent of your available credit. This means that if you have a credit card with a $10,000 balance, you shouldn't have a balance of more than $3,000. In general, you are deemed a greater credit risk if you carry high balances on your credit cards. Also, the amount you owe in relation to your annual income can affect your score. Try to keep the balances low so your score stays high.
• Length of credit history, 15% of your score: This rule applies to consumers in two ways. Someone who is 20 years old and is new to the credit world will have less history and date on which to base a score than someone who has 20 years of established and strong credit. Consumers are also rewarded for keeping accounts for a long time. Instead of opening an account and closing it a year later, you should open an account and keep it for 10 years or more. The longer you stay with a credit card company, the more stable the credit bureaus think you are. Resist the urge to open and close accounts on a whim; they will affect your score.
• New credit, 10% of your score: This applies to the previous rule. New accounts are looked at with suspicion, especially credit card accounts. If your entire credit report is filled with accounts that are less than a year old, it shows that you're behaving in a carefree manner with your credit. You should demonstrate reliability by keeping accounts for a long time and only opening new accounts when you need them.
• Types of credit used, 10% of your score: Believe it or not, student loans are good. Mortgages are good. Auto loans are good. If you show that you're using credit wisely, to fund an education and buy a home, it shows that you are a reliable consumer. Consumers who have only credit card debt on file are considered riskier. Debt can be a good thing for your credit, as long as you are responsible with it and manage it effectively.