Your credit score which is your FICO score is made up of five components. These five components have different weightage and together they form your credit score:
- Payment History (35%): Payment history is your track record of paying your bills. This is the biggest part of your credit score and influences some 35% of your overall score. Credit card payments, bill payments, mortgages and delinquencies form part of this section. While its great to have all your bills paid on time, one or two late payments will not kill your score entirely. Basically three things are considered if there are any late payments. How much was owed? How recently was it owed? and for how long was it owed?
- Amounts owed(30%): The second most significant factor that determines your credit score is the amount that you owe. This takes into account the total credit that you can take and how much of that, you already have taken. Maxing out credit cards is a good example of an action that will lower your credit score. This shows that you have a much higher chance of defaulting than someone who still has a lot of balance left on their credit card.
- Length of credit history(15%): The next most important thing that carries 15% of your total score is the length of your total credit history. The longer the better. So that means that as far as credit scores go, it is best to start building credit as early as possible and being responsible with it. If you do not have a lot of credit history then it is best not to get too many credit cards. If you open too many accounts then that will lower your average account age and push your credit score down.
- New Credit(10%): This factor weighs 10% on your overall credit score. Opening a lot of new accounts in a short period of time increases the risk of default and this category shows that. Every time you apply to get a new credit card, an inquiry is made on your credit report and this reduces your credit score by a bit.
- Types of credit used(10%): The last of these factors is the types of credit that you have. A healthy mix of a credit card, mortgage, financial loans, installment loans and retail accounts gives a picture of a good balanced financial planning. Its not necessary to have all these type of accounts to have a good score, but an account which is skewed towards credit cards will definitely have a lower score in this category when compared to an account with a healthy mix.
So there you have it, the factors that affect your credit score and in turn your ability to manage your finances and live better!