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How Are Credit Scores Calculated? – Fico and Vantage Score

A three-digit number can make or break your finances. If you have a good credit score, a world of opportunity opens to you. But if your score isn’t so hot, loans and insurance cost more and can be harder to get. 

Checking your score regularly should be a regular practice. If you currently have a bad to fair credit score, don’t feel too down about it. With time and some habit changes, you can bring your score up. Knowing what goes into your score allows you to make adjustments to improve your financial situation.

How Are Credit Scores Calculated?

The three major credit bureaus, TransUnion, Experian, and Equifax, gather credit-related information about you, such as the balances and payment histories on your credit card and loan accounts. They compile this information into a credit report. 

Any time you apply for a loan or someone checks your credit, the data on your report gets run through a top-secret formula to calculate your credit score. Make that credit scores, as you have more than one. 

Your credit score differs based on the formula, or scoring model, used to calculate it. There are several scoring models in use at any given time, and a new one comes out every few years.

Your credit score can also differ depending on which credit agency’s report a lender used. The information on your reports may vary based on which credit accounts report to which agency. The credit bureaus can also make mistakes that can affect your credit score.

Fair Isaac Corporation (FICO) scores are the ones that count the most, as that’s the score a lender is most likely going to look at when reviewing your credit. Another option is VantageScore, which uses a slightly different framework when calculating your score. But because FICO and VantageScore each have several scoring models in use at once, you don’t have just “one” FICO score or VantageScore.

FICO and VantageScore do have some similarities. Most importantly, both use a scale from 300 to 850. The higher the score, the better the person’s credit. Scores over 800 are “excellent” while scores under 580 are poor. In the middle are fair, good, and very good scores.

Since FICO is the scoring model potential lenders use most often, knowing what factors count the most for your FICO score allows you to improve it.

1. Payment History (35%)

Your payment history makes up the biggest part of your credit score. Which makes sense, since the thing lenders care most about is whether a borrower is going to repay their debt. 

The FICO scoring model looks at how many late payments you have and how late your payments are. Several 60- or 90-day late payments are going to ding your score more than one or two 30-day late payments. 

The timing of those missed or late payments matters, too. If you had one late credit card payment five years ago, that’ll have less of an impact on your score than a series of late payments within the past few months.

The number of accounts with late payments also impacts your score. If you have 10 accounts and missed payments on each one, your score will be lower than if you have 10 accounts and late payments on two accounts.

Bankruptcies also affect your payment history, which is why they have such a big effect on your score. A bankruptcy sends a loud signal to a lender that you weren’t able to pay your debts as agreed. Depending on the type of bankruptcy, it remains on your credit report for up to 10 years.

If your payment history isn’t great, do what you can to get your accounts current. But don’t expect your score to climb overnight. Late payments stay on your report for seven years. It’ll take some time — and numerous on-time payments — before your new habits reduce the damage caused by paying late. 

Only accounts that appear on your credit report count toward your payment history, so if you’ve missed a few utility payments and the provider doesn’t report to a credit bureau, it won’t affect your score. 

Of course, you can get your water or electricity shut off for missing utility payments. So you should work to pay those on time, even if they don’t influence your credit.

2. Amounts Owed (30%)

How much you owe compared to how much you can borrow also has a big impact on your FICO score. Responsible use of credit makes lenders happy, so it’s not so much the amounts owed but the ratio of credit used to credit available that makes the difference.

A credit utilization ratio under 30% is generally considered good, but to have the biggest impact on your score, keep yours well below that. 

For example, say you have three credit cards and each one has a credit limit of $10,000. You don’t use two of the cards and have a balance of $1,000 on the third. Your credit utilization ratio is about $1,000 out of $30,000, or 3.33%, which is excellent. You’re nowhere near your credit limit. 

A total balance of $15,000 out of that $30,000 cumulative credit limit would be a problem, however.

If you’re approaching your credit limits on several cards or have a hefty balance remaining on your mortgage, student loans, or auto loans, focus on paying those down. Reducing your balances improves your credit utilization ratio, which could boost your credit score over time and make you a more attractive borrower.

3. Length of Credit History (15%)

Provided you keep making on-time payments and keep your credit balances low, your credit score can only get better with time. Having a short credit history won’t drop your score, but it also won’t do much to give it a boost. 

Credit scoring models typically look at the age of your oldest credit account, the average age of accounts, and how much you use each account. Keeping credit cards open, even if you don’t use them, extends the life of your credit history. 

Applying for new loans or credit cards affects your credit history length by reducing the average age of your accounts. That partly explains why your score dips after you open a new credit card or take out a new loan.

4. Credit Mix (10%)

The types of accounts you have affects your credit score, but has a much smaller impact than payment history and amounts owed.

Having a mix of credit shows lenders that you’re good at managing different financial obligations. Types of credit include:

  • Installment loans, such as a car loan or personal loans
  • Mortgage loans
  • Credit cards and revolving credit

Remember that your mix of credit makes up just 10% of your total FICO score. If you just have one or two types of loans, such as a credit card and a student loan, don’t rush out to get a personal loan or feel you need to add to the mix. Opening a bunch of new accounts at once brings your score down.

Only take out loans or apply for new credit cards when you need them.

5. New Credit (10%)

Credit inquiries occur whenever someone checks your credit. When you look at your report, it’s a soft inquiry. Soft inquiries have no impact on your score. 

When a lender checks your credit after you’ve applied for a loan, a hard inquiry appears on your report. Hard inquiries bring your score down, as they make you look slightly riskier as a borrower. 

Since they lead to multiple hard inquiries, opening several new credit accounts at once can cause your score to dip temporarily. New credit is a double whammy on your score. A bunch of new accounts also shortens the average age of your accounts, impacting the length of your credit history. 

Sometimes, you need to apply for a loan or open a new card. To minimize the impact on your credit, avoid opening multiple accounts at once. If your goal is to get approved for a mortgage, wait until after closing to start opening new credit cards or applying for personal loans.  

Also, don’t worry about shopping around for a mortgage or car loan. If you apply for preapproval on a home loan with several lenders in a short period, the credit bureaus lump those applications under a single inquiry. Your score will still take a dip, but it won’t be as severe as if you had multiple inquiries simultaneously.

Final Word

Once you know what goes into your credit score, you can work on improving your own. While the credit bureaus claim that the formulas are top-secret, the process of getting a better score is simple. You just need to pay on time, keep your balances low, and be cautious about opening new accounts. 

If your credit score isn’t what you want it to be, with a bit of patience and some timely payments, you can bring it into the excellent range — with all the financial opportunities that entails.

Amy Freeman is a freelance writer living in Philadelphia, PA. Her interest in personal finance and budgeting began when she was earning an MFA in theater, living in one of the most expensive cities in the country (Brooklyn, NY) on a student's budget. You can read more of her work on her website, Amy E. Freeman.