A credit score is that 3 digit number lenders use to determine your creditworthiness. Scores typically range from 300-850, and are calculated using information from your credit report by credit bureaus like Experian. The higher the score, the less risky you appear as a borrower, the more likely you are approved for credit. For example, to qualify for the Chase Sapphire Preferred card, you need a score of at least 670. Different scoring models exist, but FICO and Vantage are the 2 most popular. Because FICO is used in about 90% of lending decisions, we shall focus on the 5 factors that make up a FICO credit score.
1. Payment History (35% of credit score)
This is the most important factor that goes into credit scoring. It’s a simple matter of paying your bills every month. A missed payment of 30 days can negatively affect your score, but a 60 day or 90 day missed payment is worse. Collections, bankruptcies, and foreclosures are all severely negative marks on your score. Good payment history is one of the best ways to improve your scores.
TIP: To avoid missing payments on credit cards, set up Automatic Payments to at least pay the minimum by the due date.
2. Amount of Debt/Credit Utilization (30%)
How much you owe on your credit card, loans, mortgage, relative to your credit limit is your credit utilisation. For example, if you have a credit card with a $10,000 limit and you charge $4,000 on it, your credit utilisation is 40%. The higher this percentage, the lower your scores will be. Utilisation on each credit card or account you have is also taken into account, and not just total utilisation on all.
REMINDER: Keep your credit utilization under 30%.
3. Length of credit history (15%)
Lenders want to see how long you have been responsible OR irresponsible with your accounts. There is really not much you can do to change this factor other than to keep them open for a long time. Opening new accounts can temporarily hurt your credit score as it lowers the length of your credit history. If you want to add more credit cards to your wallet, it’s a good idea to apply within at least 6 months of each other.
TIP: Keep your oldest credit card accounts open even if you no longer use them.
4. Inquiries (10%)
Inquiries are the number of recent credit applications. If you apply for credit often, lenders will see this as risky behaviour and might signal financial trouble. Inquiries stay on your report for at least 2 years, but affect your score for up to a year. Some banks have rules around these. Chase, for example, won’t approve anyone for a credit card if they have been approved for at least 5 cards within 24 months.
TIP: Keep inquiries at 5 or less.
5. Credit mix (10%)
There are 2 types of credit accounts: revolving (ex. credit cards) and instalment loans (student loans/home/car). Having a credit mix shows lenders that you are capable of handling different types of credit. The greater the variety, the better your scores will be.