Simply Understanding a Credit Score
Have you ever wondered how some people can easily and effortlessly waltz into a bank and walk out with a home loan, car loan, or line of credit, while others get rejected time after time? Have you ever been puzzled at the complex science behind credit scoring? It is a somewhat confusing and mind-numbing mix of numbers, ratios, and complex algorithms used by our lenders these days to supposedly calculate your risk as a borrower.
Are you tired of feeling confused at the lingo that so many lenders throw around as if you knew what they were saying as they turn you down for having insufficient credit scores? You are about to discover the simple credit scoring secrets that lenders use to help evaluate your risk as a borrower.
I will pull apart the few components of a credit score for you so that by the end of this, you will be able to better understand exactly what you must pay attention to with regards to your own credit, so that you can become and maintain status as an “A” borrower forever more.
What is a Credit Score?
A credit score is a number that lenders use to estimate their risk if they should choose to lend you money.
Experience has shown them that people with a high credit score are usually going to pay them back with little or no problems. Conversely, borrowers with lower scores tend to be a higher risk to them and tend to be more likely to pay late or perhaps stop making payments altogether. Credit scores (usually) range from 340 to 850 points. As your score climbs, lenders tend to offer lower interest rates and better terms. Conversely, the lower your score dips, the more likely you are to have higher interest rates, higher fees, tougher terms, and potentially even get declined by the lender altogether.
How are Credit Scores Calculated?
The three major credit reporting agencies don’t necessarily use the same scoring. So don’t be surprised when you see 3 different credit agencies come up with 3 slightly different scores. Your credit score is a number generated by a mathematical formula based on the information and data in your credit report. Your information is further compared to millions of other people’s information and data.
This number is a pretty accurate prediction of how likely you are to pay your bills and honor your commitments to your lenders.
What’s a Good Credit Score vs. a Bad Score?
The scale runs from 300 to 850. The vast majority of people will have scores between 600 and 800. A score of over 700 is usually considered “excellent credit” and will usually get you the most favorable interest rates on loans, mortgages, and credit cards. If the score is in the low 600’s or below, then you are viewed as a higher risk, and considered to have “mediocre” to “poor credit”. Here’s a look at national averages for credit scores among the US population in 2003:
Up to 499: 1%
500 - 549: 5%
550 - 599: 7%
600 - 649: 11%
650 - 699: 16%
700 - 749: 20%
750 - 799: 29%
Over 800: 11%
What Goes Into The Score, and Which Parts Are Most Important?
35% - Payment History
30% - Amounts You Owe
15% - Length of Credit History
10% - Types of Credit
10% - Newly Established Credit
Let’s break this down and make it simple. Bottom line is, at the end of this conversation you need to know just what this means to you. So let’s keep going here.
Payment History:
This category of the score reflects things like
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