Most people have at least heard about credit reports and credit scores. Yet, few people take the time to find out what their credit score is or what it really means. While the actual formula for calculating a credit score is a bit of a mystery, the ingredients are fairly simple. In addition, the definition of “credit-worthy” can depend upon the type of credit a person seeks, because the standards may vary across lenders. There are, however, some general standards and guidelines.
Credit Scores
Below 500 = Terrible credit. Forget about borrowing anything from anyone because it is not going to happen. You can, however, get a secured credit card to help you rebuild your credit. It isn’t as impossible as it may seem, but it does take time and responsibility to set things straight.
500 to 579 = Bad credit. It is possible to get credit, but you well into “subprime” territory. Where you are able to get approved for credit, you are going to pay very high interest rates. In general, you can expect to pay at least 3 percent higher than someone with good credit.
580 to 619 = Poor credit. You are able to get approved for credit cards and loans, but your risk level is likely too high to be approved through your local commercial bank. The lending options for borrowers with poor credit are fewer, and they do pay higher interest rates when approved.
620 to 678 = Average credit. With an average credit score, you should not have trouble getting approved for a credit card, car loan, or mortgage. While you will not get the best interest rates, you should be able to obtain financing through any bank. Just make sure you are not carrying too much debt and have a stable income.
680 to 719 = Good credit. With a good credit score, you should not have any trouble getting approved for credit cards, loans, and mortgages. Borrowers with good credit also qualify for nearly the best interest rates on loans.
Over 720 = Excellent credit. Lenders love borrowers with excellent credit. With excellent credit, you are considered to be a very low risk to a lender. You qualify for loans with the lowest interest rates and the best terms.
Components of a Credit Score
1. Payment history – Your payment history is by far the most important component of your credit score. Lenders want assurance that you are going to pay back the money they lend. Showing a history of making credit card and loan payments on time proves your creditworthiness to other lenders.
2. Outstanding debt – Your ability to make loan payments depends upon how much total debt you have. Your credit score reflects the types of debt you hold as well as how much of your limit you are utilizing. Unsecured credit such as credit cards are less desirable than student loans, mortgages, or car loans. Carrying a balance that is close to your credit limit also negatively impacts your credit score.
3. Credit history – The length of your credit history is also an important component of your credit score. A long credit history provides lenders with a better perspective on the payment behavior they can expect from a borrower. All things equal, a longer credit history increases your credit score.
4. Credit searches – Credit reporting agencies record all credit history inquiries. When you apply for new credit, the company does a credit check that shows up on your credit report and can cause a small drop in your credit score. These credit inquiries indicate that you may soon be opening new lines of credit that could change your creditworthiness to other lenders. Checking your own credit report and credit score, however, has no effect on your credit score.
5. Types of credit – Your credit score reflects the type of credit that you use as well as how many credit accounts you have open. While all of those credit card and store card offers may sound appealing, you are better off sticking with two or three in total.
Opening a lot of credit card accounts negatively impacts your credit score. But, that said, if you pay off a credit card along the way you should leave the account open — that helps improve your debt ratio and is part of improving your credit.