Credit Score calculation - A brief overview

[Woofy]

As a follow-up to my post on Credit Score and why it is important, here is an overview of how credit score is being calculated.

By understanding how it is calculated, hopefully, it will give you an idea of the approrpriate actions to undertake in your financial life.

************************************************** ****

Before we talk about improving our credit scores, let’s look at what is used to calculate your credit score, and the weighting of each factor.

The most commonly used credit score is the FICO score, developed by Fair Issacc Company. The specific equation is proprietary information, but the information used to calculate your credit score is made known.

Payments history – 35%

Do you pay your bills? Do you pay them on time? How often are you late? And if you are late, how late?

All these are reflected in your credit report, as lenders report them to the credit bureaus. Late payments, collections, and bankruptcies all affect the calculation of your credit score.

Debt level – 30%

How much debt are you carrying when compared to your credit limit? This is known as credit utilization.

The general rule of thumb is to not utilize more than 30% of credit limit. So, for a credit card with only $500 limit, 30% is only $150.

Yea… I know it’s kind of silly, and I wish we can start a riot about that. But that’s the industry norm. So, try to keep your credit utilization to 30% and below for your total credit limit.

Length of credit history – 15%

The longer your account stays open, the better it is, as the older accounts are viewed as being able to provide more information on your spending habits.<?xml:namespace prefix = o ns = "urn:schemas-microsoft-com:office:office" /><o:p></o:p>
<o:p></o:p>

Inquiries – 10%

If there are too many inquiries into your file, it is an indication to the lender of you taking on more debt, or you may be in financial trouble.

That being said, lenders do look at the reasons behind the flurry of inquiries. I know that when I was shopping for a mortgage last May, hubby and I had a lot of inquiries on our credit reports. But the lenders do take the fact that we are shopping around for a good mortgage into consideration.

Also, I’ve learnt that I could just simply order a copy of my credit report with the score, and use it to shop around for rates. And when I finally decide on the lender to go with, then I will give them the permission to pull my credit report.

Mix of credit – 10%

Having a mix of different types of credit accounts is a good sign to lenders that you are savvy and adept at managing your credit.

The different types of credit consists of, but are not limited to: credit cards, lines of credit, car loans, mortgage, fixed loans with regular monthly payments etc.

Credit cards are the easiest way to start building your credit. However, you will likely be granted a very low credit limit if you are still new to the game, or if you have been bad at playing the game.

Credit building and repairing takes time. There is nothing instant about it. Hopefully, by understanding the components of what is taken into account in the credit score calculation, you’ll now have a better idea on what kind of actions you can take to improve your credit score.

All else said, if you have no credit history or bad credit history, it’s not the end of the world.

True, you’ll have an awfully hard time getting the loan that you need to survive, but then let that be a motivation for you to start getting serious about getting your financial life in order.

The way I see it, your finances are like the foundation pillars of your life. It is not separate, and ignoring it has its own set of consequences.

When you have a strong stable foundation, then you are truly free to enjoy your life on your own terms, and not get too stressed out when life throws you that odd curveball here and there.<o:p></o:p>

[siantzi]

Thanks for posting the info regarding credit histories, I went out and got my credit score and found out that having a balance on my AMEX, even though I pay it off before the due date affects my credit history. I will now be trying to keep it as low as possible and pay it off before the statement date if possible.

[RT22]

thanks for the break up.....little things do go a long way to build a good credit history..

[orv]

thanks for the break down.. i really need a lesson in finance and how all this works... lol or.. i wish i could find a time warp and go back to being like.. 8 years old when none of this mattered.............. LOL

[Insane]

awesome explanation! thanks!

[richelleM]

why is the credit score important? A credit score is a formal assessment of a corporation, autonomous governments, individuals, conglomerates or even a country. Credit rating is evaluated on the basis of financial transactions carried in the past and assets and liabilities at present. Credit rating allows a lender or a credit granter to evaluate the ability of the borrower top repay a loan. even if you have bad credit, you can still apply for bad credit card Canada.

[montyloree]

hi woofy,
interesting analysis... and of course it's important to mention that your analysis is a guess at best... I have thought seriously with Equifax and Trans Union to get them to tell me the breakdown of the credit scores. I have even complained to consumer protection in Saskatchewan about the makeup of credit scores. Even consumer protection doesn't know, and they are not able to get that information.

I think it's terrible that consumer protection cannot regulate the credit score, and its composition because it makes him such an important part of the credit application.

What I do know is that if you keep your credit agreement and make your payments on time and as agreed your credit score will be high. There are some exceptions to this such as: carrying high balances on your credit cards, and having too many credit cards available.

Your post is important because it sheds light on the components of the credit score, however it's impossible to know the composition of the credit score. there is no legal way that I know of to get access to your credit score composition

[Ricki911]

Thanks! Im just trying to figure everything out and ways to save money for a house. I think in todays society people spend more than they bring in. I see family and friends doing this. Ive told myself I want to stay out of debt which is why Im so frugal. Over half my paycheque and incomes go into savings. I bought my car in full and now planning on paying for my house in full.