What Makes Up Your Credit Score?

Your credit score is a number that indicates the likelihood that you will pay your debts or make payments toward them on time. A higher credit score provides access to more favorable mortgage terms and lower interest rates.

A credit bureau, such as Equifax, Experian or TransUnion,  collects and maintains consumer credit data, which is used to generate credit reports and scores. Credit scoring systems, like FICO or VantageScore, analyze this data to produce credit scores. In other words, the credit bureaus provide the raw data, while scoring models interpret it to assess creditworthiness. 

A credit score typically ranges from 300 to 850. FICO indicates that five factors determine your creditworthiness. These include your payment history, amounts owed, your length of credit history, applying for new credit, and your credit mix. 

Payment history is the backbone of credit rating, accounting for approximately 35% of your total score. Timely payments demonstrate financial responsibility and positively impact your credit score. Paying late or missing a payment can significantly harm your credit score. If you fail to pay, collections and charge-offs, which indicate a creditor has given up on collecting debt, lead to even steeper declines.

This element comprises 30% of your credit score. The important thing to watch is the credit utilization ratio on revolving accounts, which refers to the amount of available credit you use each month. If you have used a large chunk of your available credit, it can signal that you may be overextended and more likely to make a late payment (or miss one).

FICO indicates that five factors play into how your credit score is impacted by amounts owed:

• The amount you owe on all accounts. This is represented by the total balance on the last statement for your accounts.
• The amount you owe on different types of accounts. The specific types of debt that you carry also have an impact. FICO looks at revolving debt, such as credit card balances, and installment debt, as represented by auto loans, personal loans, student loans and mortgage loans.
• How many of your accounts have balances. If you are carrying a balance on a large number of accounts you may be viewed as a higher credit risk.
• Your credit utilization ratio on revolving accounts. Using a high percentage of your credit limit signals that you are a greater risk. Conversely, lenders view you as less risky if you use a low amount of your available credit. In some cases, a low credit utilization positively impacts your credit score more than if you utilized no credit at all.
• The balance on installment loans compared with the original loan amount. Paying down the balances on installment loans, such as car loans and student loans, positively impacts your credit.   

The length of your credit history accounts for 15% of your credit score, according to FICO. There are two criteria that FICO analyzes when looking at your length of credit history.

• How long have your credit accounts been open? This includes factors like the age of your oldest account, the age of your newest account and the average age of all your accounts. 
• The length of time that specific credit accounts have been open.

New credit comprises 10% of your credit score. It relates to the impact of opening new accounts, and your FICO Score considers all new credit and credit inquiries within the last 12 months. 

Three criteria are reviewed when reviewing your new credit.

• The number of new accounts. FICO reviews the number of new accounts and the types of accounts you have. FICO may also analyze your total accounts to review how many are new. 
• The number of recent credit inquiries. An inquiry is a request from a bank or lending institution to review your credit score or credit report. 
• The length of time since you last opened a new account.

The types of credit you carry account for 10% of your credit score. Credit mix refers to the diversity of your credit accounts and includes revolving credit, such as credit cards and lines of credit, as well as installment loans, like student loans and auto loans. 

The best way to assess your creditworthiness is to check the information in your credit report. Many banks will provide your credit report for free. You can also get your credit report at no cost by visiting the websites for FICO, Equifax, Experian or TransUnion. 

Now that you know the factors that affect your credit score, you may be wondering how it impacts your ability to finance a home. 

“Your credit scores and credit history are hugely important to your ability to qualify for a mortgage, as well as the rate and fees you will pay,” says Todd Huettner, owner of Huettner Capital in Denver, Colorado. “A score difference of 100 points can save or cost you tens of thousands of dollars in fees and interest on the same loan.”

When it comes to mortgage approval, credit scores must meet the minimum requirement for the loans. “Your score either is or isn’t high enough to qualify,” Huettner says. 

Your lender will help you understand the minimum requirements for each type of loan. As a ballpark, you can secure an FHA loan with a credit score as low as 580, but standard conventional loans require a minimum credit score of 620, as do conforming loans, which meet Fannie Mae and Freddie Mac guidelines. 

Jumbo loans usually require a credit score of 700 to 720 to qualify. “While there are options for lower credit scores, these loans typically have much higher fees and interest rates,” Huettner says.

Credit scores and credit history do not change the down payment requirements for a home loan or the maximum allowed loan-to-value ratio. However, a down payment of less than 20% will require mortgage insurance. 

“That calls for a separate layer of underwriting requirements where credit scores and credit history can make a difference as well,” Huettner says, noting that monthly mortgage insurance premiums will increase with lower credit scores. 

To maintain optimal credit health, adopt responsible habits like making timely payments, regularly monitoring your credit and avoiding applying for too much credit. 

Following these simple steps will help you secure a better interest rate when it’s time to buy a home. This can save you a substantial amount of money over the life of the loan.