Understanding Your Credit Score

Do you ever wonder what exactly a credit score is? It may seem like a simple question, but the answer can be quite complex. Whether you’re in need of traditional loans, credit cards, or even bad credit loans, your credit score plays a significant role in the approval process. In fact, as of June 2023, the rejection rate due to bad credit has increased to 21.8%.¹ Fortunately, there are numerous financial wellness blogs available on the internet that provide helpful tips on checking, improving, and ensuring the accuracy of your credit score. It’s essential to understand that your credit score directly influences how much you can borrow. But have you ever wondered who exactly sets the score and what factors they consider? Within this article, we will explore the different factors that impact your credit score and delve into the two most popular credit scoring models used today.

What Drives Your Credit Score?

First things first, it’s important to know that you have multiple credit scores. There are thousands of credit scoring models out there, each calculating scores differently. When someone mentions your ‘credit score,’ they are usually referring to your FICO score. In this post, we will provide details on the FICO credit scoring model, which is the most widely used. Most models, including FICO, rely on data from your credit reports to determine your score.

Who Creates Credit Reports?

Your credit reports are created by the three major credit bureaus: Experian, TransUnion, and Equifax. These bureaus compile information provided by the banks and lenders you have accounts with. Since your credit report information impacts your credit score, it is essential to regularly check all three reports for any errors. You can obtain all three credit reports for free from AnnualCreditReport.com.²

How Is a Credit Score Calculated?

So, what factors do the scoring models focus on when calculating your credit score? Most scores are based on a combination of the following five factors:

Payment History

Your payment history is the most critical factor considered by most credit scoring models. If you have a history of late payments in the past, creditors may assume you will continue to make late payments in the future. For example, multiple late payments on a personal loan can make it more difficult for you to qualify for online loans.

Credit Utilization

Credit scoring models also analyze the ratio of your credit usage to your total available credit. Keeping your credit utilization ratio below 30% is considered favorable. We provide detailed guidance on calculating and improving your credit utilization ratio in this article.

Credit History

Unless you have struggled with making payments on time, having a longer history of credit use can positively impact your credit score. Many young individuals with no credit history face challenges when trying to access credit. You can start building a credit history by becoming an authorized user on someone else’s card or by using a secured credit card.

Credit Mix

The various forms of credit you utilize also contribute to determining your credit score. Having multiple lines of credit and different types of credit may actually improve your overall credit score. Lenders believe that individuals with experience managing credit in various forms are more likely to handle the credit they are offering.

Applications for New Credit

Most credit score calculations consider the lines of credit and loans you have applied for within the past year. Applying for more credit does not always have a negative impact on your credit score. However, applying for numerous new lines of credit within a short time frame may raise concerns about your financial situation. Lenders view borrowers in financial distress as riskier, and this can lead to a decrease in your credit score.

Understanding the Different Credit Scoring Models

Most credit scoring models take into account the factors mentioned earlier, but they may assign different weights to each factor. Now, let’s explore how the two most popular credit scoring models, FICO and VantageScore, weigh these factors in their scoring models.

Score Range	FICO Rating	VantageScore Rating
800 – 850	Exceptional	Excellent
740 – 799	Very Good	Good
670 – 739	Good	Fair
580 – 669	Fair	Poor
300 – 579	Poor	Very Poor

Understanding the FICO Credit Score Model

The FICO general-purpose score is the most well-known and widely used credit scoring model. It is developed by FICO, previously known as the Fair Isaac Corporation, which is a leading credit scoring firm. General-purpose FICO scores range from 300 to 850 and are calculated based on the following factor weights:

• 35% payment history
• 30% credit utilization ratio
• 15% credit history
• 10% credit mix
• 10% applications for new credit

Some lenders classify potential borrowers as subprime, near-prime, prime, or super-prime when making lending decisions. The higher your credit score, the more attractive you’ll appear to lenders, increasing your likelihood of obtaining a loan.

Understanding the VantageScore Credit Score Model

VantageScore is another credit scoring model created by a collaboration of the three major credit bureaus to compete with FICO. VantageScores also range from 300 to 850, and the scoring factor-weights are as follows:

• 40% payment history
• 21% age and type of credit
• 20% credit utilization ratio
• 11% of total balances
• 5% recent behavior
• 3% available credit

As you can see, the VantageScore factors have slightly different names and weights compared to the FICO factors. ‘Age and type of credit’ combines the ‘credit history’ and ‘credit mix’ factors in the FICO calculation. The ‘total balances’ and ‘available credit’ factors break down the ‘credit utilization ratio.’ Lastly, ‘recent behavior’ captures the same concept as FICO’s ‘applications for new credit.’ However, ultimately, whether it’s FICO, VantageScore, or any other credit model, they all aim to answer the same two questions:

1. How have you managed credit in the past?
2. What is your ability to handle credit in the future?

Welcome to our Frequently Asked Questions about Credit Scores

Q: What are credit reporting agencies? A: Credit reporting agencies, also known as credit bureaus, are organizations that collect and maintain consumer credit information. Some major ones include Experian, TransUnion, and Equifax. They provide this information to lenders, credit card issuers, and other financial institutions to help them make lending decisions. Q: How often do credit accounts get updated on my credit report? A: Typically, lenders and credit card issuers report your account activity to credit reporting agencies monthly. However, keep in mind that the exact time can vary depending on the lender and the credit bureau. Q: What constitutes a good credit score? A: A good FICO score typically ranges from 670 to 739, although this may slightly vary among different scoring models. Remember, a higher credit score indicates better creditworthiness, making it easier for you to get approved for a loan or credit card at favorable terms. Q: How can I access my free credit report? A: You’re entitled to one free credit report every 12 months from each of the three major credit bureaus. You can request these reports through AnnualCreditReport.com, which is the only authorized website for free credit reports. Q: Do all credit card issuers report to the major credit reporting agencies? A: Most credit card issuers report to the three major credit reporting agencies. However, it’s possible that some smaller issuers or specialty cards might not report to all three. If you’re unsure, it’s a good idea to check with your issuer. Q: How can I get free credit scores? A: Many financial institutions, credit card issuers, and personal finance websites offer free credit scores to their customers. You can try checking with your bank or credit card issuer to see if they provide this service. Q: If I improve my credit habits, how long will it take to see a higher credit score? A: While the time frame can vary, positive changes in your credit habits, like paying down outstanding debt or consistently paying bills on time, can lead to a higher credit score within a few months. Keep in mind that negative items, like late payments, can remain on your report for up to seven years.

What Pachyy Wants You to Know About Credit Scores

Your credit scores play a significant role in your life. Fortunately, there are steps you can take to improve your financial history and credit score ranges. At Pachyy, we understand the importance of providing you with the knowledge necessary to understand your creditworthiness and effectively manage unsecured debt. If you’re looking for more information on credit scores or need guidance on obtaining a loan without income, we recommend checking out the Pachyy Dojo! Here are some references for further reading:

1. Borrowers are getting rejected for loans at the highest rate in 5 years │ Yahoo Finance
2. Wondering why your credit score is bad? │ Los Angeles Times