What Factors Make Up My Credit Score?
As mortgage brokers, we often find that people are genuinely surprised by their credit score when the time comes to buy a home. Your credit score is what lenders use to gauge your creditworthiness for paying back their loan. Most U.S. lenders use the FICO scoring model. These scores can vary widely from the “educational” scores you might receive from other models represented on popular credit tracking websites.
FICO pulls data from the three credit bureaus (Transunion, Experian, and Equifax) to generate your score. Scores range from 300 to 850, and the higher score you have, the less risky you seem to lenders. Generally, applicants with a FICO score above 760 will receive the best mortgage rates.
Now that you know which model you should be using to determine your credit score, you may be wondering exactly what makes up that all-too-important number. Here’s a breakdown of the different factors that affect your credit score.
1. Payment History – 35%
The payment history on your various accounts is the biggest contributing factor to your credit score. Lenders like to see a long-term picture, usually around 12-24 months, of on-time payments before issuing a mortgage. Keep in mind this standard applies to both credit accounts and installment loans, so they should be given the same consideration for payment.
If your credit is struggling, the best way to improve your score is by making the decision to never miss another payment—and sticking to it. Once you can show that you’re serious about making consistent timely payments, lenders will be more likely to work with you, even if you didn’t have perfect credit in the past.
2. Credit Utilization – 30%
Making up nearly one-third of your score, credit utilization is the percentage of available credit you’re using. For example, if you owe $1,000 on a $2,000 credit card, your utilization is at 50%. Typically, lenders recommend using less than 30% across credit accounts, and the lower utilization, the better for your score. Consistently maintaining low credit card balances will help you achieve a better FICO score and show lenders that you can handle debt responsibly.
3. Length of Credit History – 15%
The length of your credit history will have an impact on your score. Your credit report will show how long each account has been opened as well as when it was most recently updated. FICO considers the Average Age of Accounts, also known as AAoA. Their model calculates the average by taking the length of the oldest account and the newest account and dividing that by the total accounts in the individual’s name.
Generally, the longer credit history a borrower has, the better their score will be. However, this doesn’t mean that someone new to credit can’t achieve a great credit score. It ultimately comes down to how you manage the credit given to you. With the right profile of revolving and installment accounts with no missed payments and low balances, it’s possible to earn an excellent credit score in a relatively short period of time.
4. New Credit Accounts – 10%
New accounts are necessary to building your credit, but you should err on the side of caution. Opening a new account lowers the average length of your credit history. Additionally, applying for credit usually results in a separate hard inquiry for each account. These inquiries stay on your report for two years and can adversely affect your score. Too many of them at once can also imply that you’re experiencing financial problems. Only apply for accounts as needed and then leave your credit be for a while. You’re more likely to boost your score through low utilization rates and on-time payments than adding a new account you don’t really need.
5. Credit Mixture – 10%
A solid credit profile will usually consist of a mix of revolving credit like credit cards and retail accounts as well as installment loans like auto loans, student loans, etc. Having a mixture of these in good standing can show that you’re capable of handling multiple types of credit, making you less of a risk for lenders.
Understanding how each of these factors impacts your credit can help you identify the areas where you should focus your efforts for improving your score. Since payment history and credit utilization alone make up 65% of your score, starting there will put you well on your way toward a good credit score.
Credit Mistakes to Avoid
You’ve probably already discovered there’s contradictory advice on how best to manage your credit. This can lead to some serious credit mistakes that can have a long-term effect on your creditworthiness. Here are three actions you’ll want to avoid:
- Canceling Unused Accounts
This can actually decrease your score because it lowers your credit availability and erases any history of on-time payments on that account. Additionally, if you close an older account, you’ll significantly lower your account age.
- Avoiding Credit Altogether
You obviously don’t want to accumulate a lot of debt, but you need credit accounts to build a positive payment history on your credit report. Lenders will use this data to determine your loan eligibility. Without credit, it’s usually harder to qualify for any type of loan without a co-signer.
- Not Keeping Track of Your Credit
Many people don’t know what’s on their credit report until a lender pulls it. This can be a costly mistake. According to the Federal Trade Commission, 20% of Americans have inaccuracies on their credit reports. It’s a good idea to sign up for a monthly credit monitoring service so that you can access what is being reported to the bureaus and dispute anything that may be incorrect.
Local Mortgage Broker
The average FICO credit score in the U.S. right now is 706. Where do you stand? Knowing your number can get you on the path to homeownership. At La Maison Lending, our specialists are ready to help you get mortgage-ready for your dream home. Contact us today to schedule an appointment.