Your credit score is one of the most important numbers in life. It ranks right up there with your Social Security number – except this one can affect your lifestyle, your finances, and your ability to retire comfortably.
When managed wisely, your credit score can bring you the benefits of low interest rates, higher credit limits, and the personal satisfaction of knowing your credit history isn’t weighing you down. However, before you can even begin to worry about what your credit score actually is, you first need to have an idea of what factors go into the score and how they affect the final number.
There are five elements that make up your FICO (Fair Isaac and Company) score:
- 35% of your score is based on your payment history. The key factor here is whether you’re making your bill payments on time. Having one or two missed payments won’t necessarily wreck havoc on your score. What can hurt is if you’re consistently making late payments or have been sent to collections. Work as early as possible to set a solid track record of on-time payments to boost your score.
- 30% of your score is based on the amount of money you owe versus the amount of credit available to you. Owing money on a credit account doesn’t automatically reflect negatively in your score. What can be damaging is if you’re seen as overextended. This means that you’ve utilized a high percentage of the credit available to you, and may be close to maxing out your limits. Try to minimize the amount of credit balances you carry by paying more than the minimum payment due each month and if possible, pay off your credit card monthly.
- 15% of your score is based on the length of your credit history. Items looked at here are how long your credit accounts have been opened and how frequently or infrequently the credit is utilized. If you’ve only had credit accounts for a short time, work to build up a positive payment history with a few accounts before adding any others.
- 10% of your score is based on the mix of your credit. Pay attention to whether your credit accounts include both revolving credit, such as credit cards, and installment credit, such as mortgages and car loans. Having a good record with both types of credit will reflect positively.
- 10% of your score is based on new credit applications. Be cautious about applying for too many new credit accounts in a short period of time. The number of new accounts you have along with the type of credit (revolving vs. installment) will factor into your score.
Knowing how your credit score is calculated is just one piece of the puzzle. What you choose to do with the information and how you manage your accounts will be the ultimate influence in how good (or bad) your score is. Be proactive in making on-time payments, reaching out to creditors if you encounter any problems, and refraining from overextending yourself. Remember to check your credit score annually and report any discrepancies to the credit reporting bureaus.
Mary Beth Storjohann, CFP®, CDFA
Senior Financial Planner
San Diego, CA