Your credit score is a three-digit number generated using the information found in your credit report.
Private companies use mathematical algorithms (called credit scoring models) to analyze your credit report(s) and automatically generate your credit score(s).
If your credit report contains negative information, such as missed payments or unpaid accounts, your credit score will reflect that information. Recent negative remarks will cause a large decrease in your credit score, and it can take years of responsible credit usage to erase past mistakes. If your credit report is spotless, you can expect a high-quality credit score that will trend upward over time.
There are a number of different credit scoring models in existence, but the model developed by the Fair Isaac Corporation (FICO) dominates the market. According to the official myFICO website, more than 90% of all lending decisions are made using official FICO scores.
When FICO is not used, the VantageScore model is often preferred. VantageScore was created by the three major credit bureaus to compete with FICO, but adoption has been slow and FICO continues to dominate the market. Both scoring models use a similar algorithm to produce your credit score, which ranges from 300-850.
As a result of the scoring process, individuals have numerous credit scores. Each credit scoring model (FICO, VantageScore, etc.) will produce one credit score for each credit report provided by the three major credit bureaus (Equifax, Experian, and TransUnion). If each credit report displays similar information (which is usually the case), each credit score should be comparable. Any differences can be explained by the unique scoring algorithm used to generate the score.
What Factors Determine Your Credit Score?
Popular scoring models do not release the exact formula used to generate your credit score. However, FICO does provide a general breakdown using five categories.
Payment History (35%): Your payment history for all current and historical accounts, including any missed payments or delinquencies.
Amounts Owed (30%): The current loan balance for each account as a percentage of your total credit limit. The amount of available credit you’re using on revolving accounts (like credit cards) is heavily weighted.
Credit History (15%): The amount of time that each account has been established, including the age of your oldest account, newest account, and the average age of all accounts.
New Credit (10%): Your pursuit of new credit, including credit inquiries and the number of recently opened accounts.
For more information, see how your FICO score is calculated.
What Factors are Excluded?
According to the Consumer Credit Protection Act, the following information cannot be considered when calculating your credit score.
Is Your Credit Score Important?
When you apply for any loan or line of credit (credit card, auto loan, home mortgage, etc.), lenders use your credit score and credit report to predict your trustworthiness as a borrower. Your credit profile determines whether a lender is willing to extend you a loan and at what interest rate.
A higher credit score indicates that you are a responsible borrower, which means less risk to the lender. Therefore, the lender will be willing to extend you additional lines of credit at a lower interest rate. The average FICO score is around 700, and you will generally qualify for the best lending rates if your credit score is in the mid-700s or higher.
It’s not just lenders who are interested in your credit profile.
Insurance companies are using credit to predict risk, and a poor credit profile often means higher monthly premiums. Potential employers are using credit information to predict future employee behavior. Cellular providers and utility companies will charge you a large opening deposit if you have credit problems. Even landlords will review your credit profile to determine if you will be a responsible tenant.
In all of these scenarios, businesses are using your credit score and credit report to evaluate your character and trustworthiness.
Like it or hate it, your credit profile is important.