There are five basic factors to how your FICO credit score is calculated. Knowing these basics will help you keep your scores as high as possible:
1. Payment history – 35% of the score. Paying accounts on-time is the largest factor for credit scores. An account is considered on-time as long as the payment is received within 30 days of the due date. One day past the due date may be considered LATE in the eyes of the lender, but it won’t be reported. You could be subject to a late charge, but if it is received before it is 30 days past due it will not affect your credit scores.
2. Balances owed on accounts – 30% of the score. The balances we carry have an impact on the credit scores. Coming into play mostly with revolving accounts such as credit cards. The rule of thumb is that you should try to keep your balances on credit cards less than 50% of the available credit limit. Lower is better, if you can keep them under 10% even better. The closer you get to the limit on an account the greater the decline in the credit scores. Try to keep your credit card balances as low as possible.
3. Length of credit history accounts – 15% of the score. The longer positive credit history the better. An installment loan has a set lifespan and will be closed when the last payment has been made. Conversely, credit cards (revolving accounts) can have an infinite lifespan.
Closing credit cards is not a good thing when it comes to credit scores. If you cannot withstand the temptation to accumulate more debt on open credit cards, put them out of immediate reach (safe deposit box) to avoid spontaneous purchases. Try to avoid closing out history you have already earned.
4. New credit accounts – 10% of the score. Inquiries and new accounts fall into this category. Every time a lender gets your credit report or credit score it shows up as an inquiry on your credit report. An inquiry can have a small impact on your credit score, maybe a decline of a point. Gaining a new credit account can have a larger impact on your credit score in the short term. Do not apply for unneeded credit.
5. Mix of credit accounts – 10% of the score. An ideal mix of credit would be credit cards, car loans, mortgages, student loans, etc.
- Installment versus revolving
- Secured versus unsecured
Keep in mind – the “mix” is only 10% of the overall formula. As your credit becomes older, this will be less of an issue. I have seen plenty of credit scores in the 800 range with only credit cards, no installment loans at all.
About the Author: Patrick Ritchie loves teaching about credit; he is the author of The Credit Road Trip and The Credit Road Map series of books. Check out his free online classes at www.CreditLiteracyProject.com.
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