Credit Score Resources

Understanding Your Credit Score

A very important aspect of your overall financial health is your credit score. After all, lenders, insurers, employers, landlords and others all use credit scores to determine what services you qualify for--and how much those services will cost. The following information will help you understand what a good credit score is, what credit score range you should strive for, and how to improve your overall credit score.

Connexus Credit Union believes in providing you with the tools and education you need to improve your financial life. A very important aspect of your overall financial health is your credit score. After all, lenders, insurers, employers, landlords and others all use credit scores to determine what services you qualify for--and how much those services will cost.

Interested in learning how to establish credit? Listen to our podcast!

What is a Credit Score?

A credit score is a predictive tool on how a consumer will manage their debt in the future based on how that consumer has managed their debt in the past. The higher your score, the less risk you represent. Credit scores can range from 380 - 830 (the higher the better) and is a result of five basic items:

• Payment history - 35%
• Capacity - 30%
• Length of credit - 15%
• Accumulation of debt in the last 12-18 months - 10%
• Credit Mix - 10%

Get even more information on what impacts your credit score by listening to our Credit Score podcast!

Payment History

Payment history makes up approximately 35% of a credit score. One common theme in understanding credit scoring is that time has healing power. The longer it has been since a negative incident occurred, the less it will affect your score. So, in the case of payment history, a late payment five years ago is going to have much less impact than a late payment last month. Additionally, the amount of a late payment has no impact on the score. So, for example a $10 department store late payment and a $2500 mortgage late payment have the exact same impact. Because of the higher weight of payment history making consistent on-time payments monthly is extremely important to maintaining a strong credit score. Also, keep in mind that delinquencies stay on your record for seven years.

Capacity

Capacity represents the ability a consumer has to borrow and it makes up 30% of a credit score. If a consumer has $50,000 in limits on credit cards and their current balance on those credit cards is $49,000, their capacity is 2%. Alternatively, if a consumer has $50,000 in limits on credit cards and their current balance is zero, their capacity is 100%. The lower the capacity, the lower the credit score. A low capacity demonstrates that the consumer is using all the credit they have available and could be a riskier borrower.

Capacity can be very confusing to consumers. Many lenders have advised consumers to close out all unused credit cards or lines of credit, particularly when a consumer is taking out a "debt consolidation" loan. This can have a significant negative impact on the credit score. Consider if a consumer had $25,000 in balances between four different credit cards with a combined total of $40,000 in limits, consolidated those to one credit card without any additional limit and closed the other four. This consumer would have gone from having 38% capacity to 0% capacity. This would have an immediate negative impact on the credit score. Often just cutting up unused credit cards is a better alternative than closing accounts.

Length of Credit

The length of time that a consumer has had credit makes up 15% of their score. Length of credit is important because as a lender, if a consumer has a high credit score, but has only had credit for 6 months, there is not a proven ability to maintain that high score. Again, time has a significant impact on the score. This is another lesson that consumers often learn the hard way. It is extremely important for a consumer to keep open the oldest account they have. Frequently consumers close this account as it is often a small department store charge account. If the oldest account the consumer has is closed, there can be a significant impact on the score.

Consider the following: the more recent the action, the more it impacts the score:

40% = current to 12 months

30% = 13-24 months

20% = 25-36 months

10% = 37 + months

Accumulation of Debt

Another important factor used in calculating a credit score is the accumulation of debt in recent months. The more that a consumer has been "shopping" for credit, the lower their score may drop. The reason for this is a consumer who is searching for credit often is a consumer that is struggling and becoming a riskier borrower. Accumulation of debt accounts for about 10% of the credit score.

There are some important exceptions to this rule. The credit reporting agencies give consumers some leverage with both mortgage and auto purchases. If a consumer has several similar mortgage or auto "inquiries" on their credit report within a few days or weeks, these do not have a significant negative impact. However, if a consumer had numerous credit card inquiries, the impact could be more significant. This is part of why it is not always advantageous for a consumer to take advantage of the many offers department stores extend for discounts if a charge account is opened.

Credit Mix

Credit "Mix" means the different types of debt a consumer might have. Installment or closed-end loans raise a score. Examples of installment loans include auto loans, mortgage loans, home equity loans or closed end debt consolidation loans. Revolving loans that are used or have a balance lower a score. Revolving loans include credit cards or other open-end lines of credit. In addition, the number of finance companies that appear on a consumer's credit report also lower the score. This is because finance companies tend to lend to higher risk consumers. Credit mix makes up 10% of a consumers credit score.

What Doesn't Impact My Score?

There are several things that many consumers believe might affect their score that do not. Those include:

• Debt ratio
• Income
• Length of residence
• Length of employment

These are items that lenders may consider when making a loan decision, but they do not go into calculating a credit score.

How can I improve my score?

Based on the above criteria, there are actions that will have a significant positive impact on your score.

These include:

• Paying down credit card balances
• Not closing credit cards even when they are not used
• Making payments on time
• Slowing down on opening new accounts
• Acquire a solid credit history with years of experience
• Moving revolving debt to installment debt