Cracking the Credit Score Code

Learning how one’s credit score is determined is essential for many because Fox Business explains that around 30 percent of Americans have a credit score that falls into the poor and bad credit groups, below 601 on the popular 300-850 scale. These people will often have a difficult time obtaining credit, and the ones that do will suffer from higher interest rates.

The Formula

The best way to go about fixing a poor credit score is to learn about the different categories that make up a credit score and how to improve all of them. The Wall Street Journal highlights the categories that impact credit score in order of importance.

• Payment History — 35%

Missing a payment is one of the worst offenses in the credit world, and according to Experian, the missed payments will affect the score for up to seven years.  To be clear, late payments are those made after 30 days, and there are high penalties for payments 60 or 120 days late.  Keeping current on your payments and contacting creditors before a missed payment is key.

• Amount Owed — 30%

The amount owed is the current credit balance compared to the total credit limit. So, if someone has $100 of credit and has a current balance of $30, then they owe 30%. Importantly, the report views this as a percentage of the credit limit, so a higher limit will allow for carrying a larger balance. CreditSesame, a top credit management resource, says that individuals should aim for no more than a 10% debt-to-limit ratio.

• Extent of Credit History — 15%

The length of credit history makes up 15% of the total score, and reports favor those with a longer track record of credit. Establishing credit at an early age is key and parents with college-age children can help them get a jump start by cosigning a low-limit credit card.

• Diversity of Credit and Recent Credit Applications — 20%

These two areas each represent 10% of the score, and they provide another snapshot to lenders of credit activity. Too many recent applications can make an individual look desperate or impulsive, but having a wide-array of credit instruments such as store cards, credit cards, auto loans, and a home loan shows that the individual is capable of managing different types of credit well.