Understanding Credit
When you get in debt you become a slave.
The first step to getting financially fit is knowing where you stand. This means knowing your credit score and reviewing your credit report. Once you have reviewed this information you can start formulating a path for financial success.
The credit score
Credit agencies collect in-depth data on your financial transactions. They compile this information to determine your credit score. The most common credit score used in the United States has a range from 300 to 850. With 300 being the worst and 850 being a perfect score. Businesses use the credit score to decide whether you are worthy borrower. Scores are broken into ranges of credit worthiness as shown in the table below.
| Score Range | Rating | Effects on You |
|---|---|---|
| 300-579 | Very Poor | Potential borrowers may not be approved, or they may have to provide a deposit or fee |
| 580-669 | Fair | Borrowers may get some approvals but pay fees, deposits and/or have poor rates |
| 670-739 | Good | Borrowers may be approved for credit but not at good rates |
| 740-799 | Very Good | Borrowers will receive better than average rates but maybe not the best available rates. |
| 800-850 | Exceptional | Borrowers will qualify for the best loan terms |
The credit report
After reviewing your credit score its time to review your credit report. The credit report shows the information credit bureaus keep track of to determine your credit score. It is important to review your credit report for inaccuracies, and fraudulent behavior. Additionally, understanding the impacts of various items on your credit report will help you to adjust your financial behaviors to get a better score.
- Accounts & Balances
- Inquiries
- Public Records
- Personal Information
This is a record of all the lending based bank accounts you have had in the past and present including credit cards, retail accounts, installment loans (such as auto loans), finance company accounts and mortgages. Some of the details included here are the account status (open, closed, forbearance, delinquent, etc.), whether or not there have been late payments, and how long the account has been open.
This is a record of the who has requested your credit report. If you have requested a copy of your own report, it is not counted against your inquiries
Three things can appear in your public records, civil judgements, tax liens and bankruptcy.
This includes your name (and variants you have used), address (last two), employers, telephone numbers, social security number, date of birth, and any comments you have submitted.
Since you now know what's on your report, you need to know what information on the report effects your score, and how you can make your score better.
- Late payments
- Length of credit history
- Percent of credit used
- Recent inquiries
- Opening and closing accounts
- Credit Mix
Your payment history accounts for 35% of your credit score. On time payments are important but missing one or two payments will not automatically kill your score, because your overall credit history is taken into account.
Your credit history accounts for 15% of your credit score. Your credit history starts when you open a credit account.
The amount you owe accounts for 30% of your credit score. The percent of credit you have used is determined by dividing the amount you owe by the total amount of credit you have. A higher percentage owed will negatively effect your credit score because lenders can see it as a sign that you are overextended.
How much the number of recent inquiries effects your score varies by person. Persons with long positive credit history will not be effected as much as people with short credit histories. If you have multiple inquiries in a short time span, lenders can take it as a sign that you are rate shopping or at risk for declaring bankruptcy.
Opening accounts creates an inquiry, and reduces your average length of credit history, but it also increases your amount of available credit. Therefore, you will have an initial dip in your credit score, but overtime your score can rebound and get higher. Closing accounts can have a negative effect on your account due to reducing your amount of available credit, and reducing your length of credit history.
The types of credit you have been extended accounts for 10% of your score. However, you should not feel the need to open multiple types of accounts to "improve" this amount. This is most important when you have a relatively short credit history. As your credit history lengthens this factor will have less impact.
Links to more information on this topic are available on the Resources Page