Improving Your Credit Score - Fundamental Factors

A person's credit score, often referred to as their "FICO" score, is an important tool that lenders use to help determine the creditworthiness of a potential borrower. If you want to make a large purchase, such as a house, for which you will need financing, you want your score to be as high as possible. To understand how to improve your overall credit rating, it is imperative you understand what factors influence your FICO score.

Payment History

Do you pay your bills on time? Most creditors, lenders, and service providers will charge a fee if you do not. Obviously, the biggest thing wrong with that is the egregious waste of money. What is worse in the long term is that after 30 days of nonpayment, the lender will likely report you to one of the major credit bureaus. (In the U.S., there are three such credit bureaus: Experian, Equifax, and TransUnion.) Considering that thirty-five percent of your credit score is based on payment history, it becomes clear how important it is to keep up with your financial obligations. No other single factor has that much influence on your FICO score.

Debt to Total Credit

The ratio of your outstanding debt to the total of your credit lines and loan amounts counts for thirty percent of your credit score. For example, if you have a credit card with a limit of $5000, and you owe $4000, your debt to total credit ratio is eighty percent. After paying down $3000 of the principle, your outstanding balance is $1000, giving you a ratio of twenty percent, which is much better.

If your outstanding balance occupies seventy percent or more of your total credit line, it is viewed negatively by the credit bureaus. If the ratio is in the range of thirty to seventy percent, it is doing little or no harm to your credit score; however, it certainly is not helping your credit score. Bring your debt to less than thirty percent of your total available credit, and your FICO score will very likely improve. Getting balances and, therefore, debt to credit ratios down to zero is clearly a desirable goal. It is important to remember, though, that unused credit will not help your credit score. We will explore that topic a bit later.

Length of Credit History

Fifteen percent of your FICO score is based on how long you have had some type of credit. The perception is that someone who has owned a credit card for twenty years is more likely to be responsible and credit worthy than a young person right out of high school who has the same credit card. Although this is true generally, it is certainly not always the case; that is why it is weighted significantly less than payment history and the debt to credit ratio.

New Credit

If you have one credit card for ten years, and then you apply for and receive three more credit cards, expect your credit score to come down a bit. A long-established credit account is considered more stable than a new account. Of course, how your credit score reacts to new credit is also affected by other factors. A new card will increase your total credit line, thereby reducing your debt to credit ratio. An old credit account with a poor payment history is worse than a new account in good standing. All things being equal, new credit is not bad, but old credit is very good. New credit accounts for ten percent of your FICO score.

Unused credit is considered very much like new credit. If you can use a credit card every month, and pay off the balance in full every month, you will see your credit score increase steadily. This is difficult for many people, because of the temptation to overuse the credit card. Responsibility and restraint are critical when using this technique. Remember that, even though unused credit is not very good, it is not at all bad; overused credit is.

Types of Credit Used

The remaining ten percent of your credit score is based on what type of credit you have used. A retail store credit card is not very good. Too many of them could be bad for your credit score, in fact. Small loans, if paid off in a timely manner, have a positive effect. Major credit cards are even better. Big ticket items like auto loans and home mortgages are very good, once again if you make the payments on time.

These five areas are the basis for your FICO score. Armed with this knowledge, you are better equipped to make the changes necessary to improve your credit score. An overwhelming majority of lenders will use your FICO score when considering your application. Put yourself in position to get the best possible deal. Read this article again, and then get started!