The Ins and Outs of Credit Scores

Credit scores are simple enough on the surface – they range from 300 to 850 and higher is better. But beneath the surface, they are actually very complex. There are multiple credit bureaus that assign you a score, and each one has its own algorithm, which means you really have multiple scores.

Fortunately, you don’t need to be a financial whiz to understand your credit score and how to improve it. Here’s the information you need to know.

Why Is Your Credit Score Important?

Your credit score represents your creditworthiness. If you ever want to borrow money in any fashion, whether it’s with a credit card, an auto loan or a mortgage, the lender is probably going to check your credit score. They will use it to decide if they’ll approve your application and what interest rate they’ll set for you.

Lenders aren’t the only parties that will check your credit, though. Credit checks are common for rental applications and car insurance quotes. Prospective employers can even check your credit when you apply for a job.

What Determines Your Credit Score?

As mentioned, every credit bureau has its own algorithm, but they use similar criteria.

Most significant is your payment history. For a strong payment history, you must pay your bills on time and make at least the minimum payment. Missed or late payments will drop your credit score.

After that, there’s your credit utilization. This is your combined balances on your credit accounts compared to your combined available credit. Let’s say that you have three credit cards and your total available credit is $20,000. Your current balances are $2,000. That would put your credit utilization at 10 percent, which is excellent. For a high credit score, you should aim to always keep your credit utilization below 20 to 30 percent.

Smaller, but still important, factors are your recent credit inquiries, account types and length of credit history.

Recent credit inquiries, such as applications for a loan or credit card, can bring your score down a bit, although this is temporary. For account types, having a mix that includes revolving lines of credit, such as credit cards, and installment loans is better than having just one of these. Length of credit history is the average length of all your credit accounts.

Getting and Maintaining a High Credit Score

The formula for a high credit score isn’t a secret. You need at least one credit card that you use for purchases every month, but without going above the recommended credit utilization of 20 to 30 percent. Always pay your bill on time, ideally paying the entire amount to avoid interest. That’s all it takes to build your credit score and keep it high.

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