Remember back in your college days when you stressed over your GPA, thinking that number would have a huge impact on your future? And then the relief of graduating — thinking you’d never have to worry about three digits ever again.
Not so fast. There’s another three-digit number you should pay attention to now that you’re in the real world — and it can have a huge impact on your finances. We’re talking about your credit score.
This most widely used credit score is the FICO Score, which ranges from 300 (poor) to 850 (the best!). It reflects the information found in your credit report and provides potential lenders with a snapshot of your creditworthiness (that is, how likely they think you’ll be to pay them back).
Your credit score can have an impact on everything from the interest rate on your mortgage to whether you qualify for credit cards with the best perks, and could even impact whether you can open a bank account to begin with. In other words: It’s kind of a big deal. So what exactly determines this magic number? We break down the five major factors and how heavily they are weighted into your score.
Opening several new lines of credit in a short period of time can have a negative impact on your score.
PAYMENT HISTORY (35%)
If you needed another reason to pay your bills on time, here it is: Being 30 days late with a bill just once could cause an excellent credit score to drop 90 to 110 points, according to MyFICO.com.
Luckily, if you miss the deadline by just a day or two, the damage shouldn’t be so bad, although you may get charged a late fee. That’s because many companies won’t report a late payment to a credit bureau until it’s 30 days late. Plus, FICO takes into consideration other factors like how late you were, how much was owed, how recently you missed the deadline and how many times you’ve been late in the past when deciding how missed payments will affect your score.
If you’re so late with a payment that it goes into collection, expect an even bigger ding to your score. And since you’re not always notified when a bill is sent to a collection agency, be sure to regularly check your credit report. You’re allowed one free copy of your report every year from each of the three major credit bureaus — Equifax, Experian and TransUnion — at AnnualCreditReport.com, so consider getting a copy once every four months.
AMOUNTS OWED (30%)
How much you owe across all your credit accounts also has a significant impact on your overall credit score, as does your credit utilization ratio, or the percentage of your available credit that you’re actually using.
A good rule of thumb is to keep this ratio to 30 percent or less. So if your credit cards have a total combined limit of $10,000, you shouldn’t carry a balance of more than $3,000 in a given month (and the lower, the better). If lenders see you’re close to maxing out lines of credit, they may view you as a risk for not making future payments, so it’s a good idea to stay under that 30 percent ratio on individual cards as well.
LENGTH OF CREDIT HISTORY (15%)
Lenders want to know how long you’ve been responsibly managing your credit, so this factors in the ages of your oldest credit account, your newest credit account and the average age of all your accounts. Generally speaking, the longer your credit history, the higher your score. So think twice if you’re thinking of canceling cards you’ve had for a long time. If you cancel your oldest cards, you credit score could suffer.
Ready to take the next step? A financial advisor can show you how all the pieces of your financial plan fit together.
CREDIT MIX (10%)
Holding a variety of credit accounts and loans — such as credit cards, student loans, an auto loan, a mortgage, etc. — can help your score because this shows lenders you can handle different types of borrowing. You shouldn’t open an account you don’t need or intend to use, however, because that could trigger a hard inquiry (more on that below). Plus, you don’t want to manage more debt, or the potential for more debt, than necessary.
NEW CREDIT (10%)
Opening several new lines of credit in a short period of time can have a negative impact on your score. It signals to lenders that you may be financially unstable, and relying on credit and loans too much.
Each new account you open also triggers a hard inquiry on your credit, which can ding your score. Hard inquiries are when a lender pulls your credit report in order to evaluate you as a borrower. By contrast, a soft inquiry is when someone who isn’t a lender checks your credit report — like when you’re getting your own free annual credit report. Soft inquiries don’t impact your score. Simply checking your score through sites like Credit Karma or via your credit card company won’t hurt your credit report either.
YOUR CREDIT WELLNESS
Now that you know what makes up your score, do you know where your “credit GPA” falls on the poor-to-excellent scale? It can vary depending on who you’re borrowing from, but here’s a general breakdown:
- Poor: 300 to low 500s
- Fair: Mid 500s to mid 600s
- Good: High 600s to low 700s
- Excellent: Mid 700s to 850
Bottom line: There’s a lot that goes into your credit score, and it can fluctuate frequently, so be sure to keep tabs on it regularly. And be on the lookout for any errors in your credit report, which could hurt your score unnecessarily. If you do notice a mistake, use this sample letter from the Federal Trade Commission to file a dispute with the credit bureaus.