About Credit Scores

Your credit score is very important to your financial health.  That's because credit scores are used by lenders and creditors to help them predict how likely you are to pay your bills in a timely manner.  Higher credit scores can also lower your cost of borrowing by allowing creditors to extend you a loan at a lower than average interest rate.

Credit Scoring

To help you better understand what credit scores are all about, we're going to provide you with some information on the credit reporting and scoring process.  We'll also include some information about credit rating agencies, and how these agencies go about calculating a credit score.

We're also going to help answer the question:  "What is a good credit score?" We'll do this by providing some national statistics for credit scores.  For example, we're going to show you the national distribution of credit scores, and explain what that data means to your ability to obtain credit or a loan.  Finally, we're going to provide you with some simple ways that you can improve your credit score.

Credit Reports and Credit Scores

Credit rating agencies, or credit bureaus, calculate credit scores based on your historical payment patterns.  Payments include monthly bills such as credit card and utility bills as well as loan repayments.  Much of the information that is used to calculate your credit score is found in your credit report.  That's good news because as a result of the Fair Credit Reporting Act, everyone is entitled to a free credit report annually.

While the accuracy of the information contained in your credit report is extremely important to understand, you will not find your credit score in the report.  In fact, you are not entitled to a free credit score - only a report.  If you're looking for a credit report score, then you have the two concepts mixed up.  If you want to obtain your actual credit score, you'll have to pay one of the credit agencies a nominal fee of around $15.

 FICO Credit Score

The most common credit score used today is the FICO® score.  Each of the three credit bureaus, or credit agencies, calculates a FICO score.  Those scores are available to lenders and creditors that want to understand the risk of nonpayment they are taking before they decide to lend you money, extend you credit, or even waive a deposit.

The names used by each of the credit bureaus for their FICO credit scores are:

Calculating a FICO Credit Score

Your FICO credit score is calculated by each of the credit rating agencies based on the information gather by them through their business relationships with utilities, credit card issuers, phone companies, and other creditors and lenders.  It's possible to improve your credit score by understanding and controlling the elements that go into calculating your FICO score.

The following list shows the information that goes into your FICO score, and the approximate weight of that information in determining your score.

1. Payment History (35% of FICO Score) - Paying your bills on time helps your score, while late payments hurt your score.
2. Outstanding Debt (30% of FICO Score) - The more you owe others relative to the credit you've been extended, the lower your credit score.
3. Credit History (15% of FICO Score) - The more information a credit bureau has on your payment patterns, the more certain they can be about your future payment patterns.  You get a higher credit score if you have a longer credit history.
4. New Credit (10% of FICO Score) - If you've recently applied for credit, this will be weighed against you.  In other words, the more new credit you apply for, the greater your credit risk until you establish a good payment pattern.
5. Miscellaneous Factors (10% of FICO Score) - These are minor factors that can be used to calculate your credit score such as the different types of loans you have outstanding.

Again, the important information to remember is that the more you know about the credit score, the better equipped you are to improve your score.

What is a Good Credit Score?

Now that you know how credit scores are calculated, the next logical question is:  What's a good credit score?  The national distribution of credit scores is shown in the table below.  The table can be used to help you understand what an average credit score is, and what a good credit score is.

National Credit Scores

Interpreting Credit Score Data

There are several things we can learn from this credit scoring data.  The first is that the scale range is from 300 to 850. We can also learn that the average credit score is right around 700.  Actually, 700 is technically the median, which means that roughly half the population scores above 700, and half the population scores below 700.  Most lenders would view 700 as an average credit score, and that's an important point.

If 700 is an average credit score, then a good credit score is anything above 700, and the higher the score, the better.  Many lenders perceive scores above 700 as a sign of a person or household with good financial health.

On the other hand, individuals with scores below 600 may be viewed as high risk, and may even be turned downed for credit or charged a higher interest rate on a loan.

Increasing Credit Scores

We're going to finish up by talking about your ability to repair your credit score.  If you had trouble paying your bills in the past, and your credit score is lower than you'd like it to be, there are four things you can do:

• Pay Bills on Time - make sure you're diligent about mailing checks or sending in your monthly payments before the payment due dates.  A chronic pattern of sending in payments late will hurt your credit score over the long haul.
• Decrease your Debt - if you have a lot of outstanding loans, and can afford to pay off these loans, then doing so will help your credit score.
• Decrease your Outstanding Credit - while owning many credit cards or opening up multiple lines of credit may make you feel more financially secure, this habit will hurt your credit score.  The more you're eligible to borrow, the higher the risk of nonpayment, and the lower your credit score. 
• Stop Applying for Credit - only apply for credit when you actually need it.  Recently applying for credit will hurt your credit score in the short term.

Credit Repair Services

If you look back in the publication, these are the same factors used to determine your credit score.  But there is one other action you can take to repair your credit score:  Get a free online credit report, and make sure it's accurate.

Many consumers with bad credit scores seek out companies offering credit score repair services.  It's important to understand that if you decide to hire someone to help you repair your credit score, the only legal way to increase your score are by the means mentioned above.  Be wary of credit repair offers that seem too good to be true.

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