If you’ve ever wondered how credit scoring works, it all comes down to the credit score, which is derived from five different sources of information: payment history, debt utilization ratio, types of credit used, length of credit history, and new credit accounts. There are thousands of different credit scores that are made up of the same five factors but weighed differently based on the lender’s criteria. Here’s how each of these five factors affects your FICO score…
1: The Basics of Credit Scores
A credit score is a three-digit number that shows up on your credit report. It’s an indicator of your past credit performance and how likely you are to repay a loan. The higher the number, the better. If your score is low, it could mean that you’re not managing your money well or have too many late payments on your record. It could also mean you don’t have any credit history because you’re new to credit or haven’t had a loan yet.
The way a credit score works is that every lender has its way of evaluating how risky it is to lend money to someone based on their repayment history, current income and debt levels and how long they’ve been using credit.
2: The Different Types of Credit Scores
There are three different types of credit scores that are used by lenders to determine how risky a borrower is. FICO score is the most commonly used type of credit score of all lending decisions in the US relying on a FICO score in some capacity. This is because it has been developed over time to be the most predictive measure available for assessing risk. As mentioned earlier, there are three different types of credit scores that are used by lenders to determine how risky a borrower is. They vary in their accuracy and which information they use to calculate your score. The first one we’ll talk about is called the FICO score.
3: How Credit Scores Are Used
The better your credit score, the more likely you are to get a loan and the lower the interest rate you will pay. Knowing how credit scoring works can help you understand how to improve your score and save money in the long term. How does credit scoring work? The most popular method of determining someone’s creditworthiness is by checking their credit report. According to, one of the three major consumer reporting agencies, five key factors are used in a Score calculation:
- Payment history
- Amounts owed
- Type of credit used
- Recent searches for new credit
- Length of time since last missed payment or delinquency
4: Tips for Improving Your Credit Score
Many people are unaware of how credit scoring works and don’t realize the powerful impact it can have on their lives. For example, did you know that lenders often use your credit score to decide what interest rate they’ll offer you on a loan or mortgage? One way to improve your credit score is by paying off any delinquent debts, which may be dragging down your credit rating. Another common tip is to try and keep balances of your available limit to maintain a good ratio of available balance to balance owed. This is seen as an indicator of risk for lenders who may view the borrower as having trouble managing money. Furthermore, those with little to no debt and large amounts of cash on hand typically receive higher credit scores than those with large amounts of debt and limited cash. Lastly, one thing not related to your finances that affects your credit score is if you’re currently under many years old – many financial institutions will lower your score if this applies to you because age increases the potential risk for defaults due to less experience handling funds.