The Ultimate Guide to Your Credit Score

Credit scores are an important part of modern life, and yet most people don’t actually know how they work. They impact the interest rate you pay for loans, whether you can rent an apartment or get a job, and whether and at what interest rate a bank will give you a mortgage. Plus, people are 40% more willing to date you if you have a higher credit score. 

So how does it work?

The Basics

Your credit score is a number between 300 and 850 that signals to lenders how risky it is to lend you money. (Why 300 to 850? I honestly have no idea whatsoever. If you do, please leave a comment and/or shoot me an email because I’m the type of person that wants to understand everything.) The credit score is based on a series of factors that are included in your credit reports.

There are three different companies that create credit reports, and each differs slightly in its methodology. The three companies are Experian, Equifax, and TransUnion. They take information from your credit cards, banks, student loan companies, and other lenders and compile all of that information into a report, which is then used to generate your score. The score will differ depending on which report it was based upon.

Okay. Now on to the useful parts. How do you find out what your scores are and how to improve them?

First, you should review all of your credit reports. You are legally entitled to check all three of them for free once every twelve months. You can do that through annualcreditreport.com.

Checking your credit reports has the double benefit of allowing you to see what you need to do to bring your score up and also allowing you to make sure that nobody has stolen your identity and opened accounts in your name. If there are any errors in your report, call up the agency and they will work with you to get the errors removed.

The best way to monitor your scores and reports on an ongoing basis and determine which areas need the most work is by signing up with creditkarma.com. The site is completely free and will give you your credit score from TransUnion and Equifax. More importantly, you can click on “Credit Factors” to see which areas you are strong in and which are weaker. You can also get the detailed report from each agency.

Once you have your report and have viewed the “Credit Factors” on Credit Karma, you can figure out how best to approach improving your credit score based on which factors you are struggling with.

High Impact Factors

  • Payment History

This factor is the biggest, at 35% of your credit score, and measures the percentage of payments you have made on time. This is calculated as the total number of payments you have made on time divided by the total number of payments you were supposed to make. (This is usually limited to the last seven years, but can be up to ten in the case of bankruptcies). This includes any bills that may report to credit agencies – credit cards, student loans, mortgages, etc.

This is a tough one to improve quickly. The best thing you can realistically do is to pay bills on time from now on. Make sure to set up autopay on as many bills as possible and put a reminder into any calendars that you use for monthly due dates.

The farther down the list the late payments go, the less they impact your score, so this will improve gradually rather than staying low until the late payments fall off entirely after seven years.  

One way to speed this up a bit is to artificially increase the number of bills you pay on time. If you have a credit card that you don’t use and that has no monthly payments due, you can put one small bill on it each month (for example, the cell phone bill) and set the credit card to automatically pay in full every month. It is important to actually pay this bill in full every month, as the boost to your credit score is not worth the extra interest if you make only the minimum payment.

  • Credit Card Utilization

This factor measures the amount of credit card debt that you have compared to the total limit of all of your credit cards. An “Excellent” credit card utilization rate is 0-9% and a “Good” rate is 10-29%.

The easiest way to improve your credit score quickly is to work on this factor. And the easiest way to improve this factor is to pay off credit cards as quickly as possible.

As for the best way to pay off credit cards efficiently: first, make sure you are making at least the minimum payment every month on every card. Next, take as much extra money as you can each month and put all of that extra money into paying down the card with the highest interest rate. Once that is entirely paid off, move the extra payments to the next highest interest rate card. Continue until none of the cards carry any balance from month to month.

(For an explanation as to why I prefer this method of debt repayment to Dave Ramsey’s famous “debt snowball” method, check out this article.)

For the most optimum improvement of your score, continue to use each card after you pay it off (minimally – maybe try the one small bill per month tactic above) to maximize the number of on time payments you make. Again, make sure to pay these off in full every month rather than making minimum payments. The credit score improvement is not worth paying extra interest. If you do not trust yourself to pay the cards off in full every month, please skip this step.

The other way to improve this factor is to increase your total credit limit. Because your total credit limit from all of your cards is considered, it actually hurts you to close credit cards or have lower limits on your cards. The banks want you to have a lot of credit available, but not actually use much of it.

The easiest way to increase your available credit is to become an authorized user on someone else’s card(s). There is also some risk involved in this. You want to make sure that both people are responsible and will be paying the bills every month or it will hurt both of your credit scores. You also want it to be a credit card that has a high balance and a low utilization. It will not improve your credit score to add yourself to a card with a $7,000 limit and a $6,000 balance. Depending on your options in this regard, this may or may not be a good choice for working on this factor.

The next way to increase your available credit is to ask for an increase to your limit on cards that you already have. You should only pursue this option if you trust yourself not to actually use the higher limit. The goal is to keep the utilization rate down, so if you get a higher limit and then collect extra debt, you are hurting your credit score and making your finances worse by taking on extra interest.

The downside of requesting a credit increase is that the credit card company will usually do what is called a “hard pull” on your credit report. This will count as a negative factor (see the Credit Inquiries section below for more on this). The credit inquiries count much less than the utilization rate, so it is usually worth it as long as you actually get the credit increase. To have the best odds of actually being granted the increase, you should wait to request an increase until your credit score is good and you have made on time payments and been under the limit on the credit card that you are requesting the increase on for the past 12 months.

The final way to increase your available credit is to open a new credit card. This is not a good option for short term credit improvement because it will negatively affect your Credit Inquiries as well as your Age of Credit History (also discussed below). This is another case where you don’t want to request a card unless you are reasonably confident that you will get it.

  • Derogatory Marks

This factor counts the number of accounts sent to collections. It also includes bankruptcy, foreclosure, and tax liens. These marks stay on your report for 7-10 years.

There isn’t much that can be done to improve this section in the short term. Be sure to review any derogatory marks that are in your credit report. If they are inaccurate, then call the credit agencies and explain the situation to them. It can be a pain in the ass sometimes, but they will remove any inaccurate marks.

If the marks are accurate, then there isn’t really anything that you can do. That said, there is no harm in calling the credit agencies, explaining your situation and seeing if they can do anything to get the marks off your record. The worst that can happen is they say no and you waste a little bit of your time.

Medium Impact Factors

  • Age of Credit History

This is the average age of your open accounts. These include credit card accounts, student loans, and mortgages.

The best thing to do for this factor is to keep old accounts open. Credit Karma will include a list of all of your open accounts sorted by age and give you a good idea of which accounts are the oldest and raising your average age and which are lowering the average age.

There is no real way to improve this factor quickly without decreasing your overall available credit (i.e. canceling newer cards) which would likely hurt more than it helps.

Low Impact Factors

  • Total Accounts

This is the total number of open and closed accounts (credit card, mortgage, car loan, student loan, etc.) on your report. The higher the number, the better. That said, opening new accounts will hurt you in the Credit Inquiries category and the Age of Credit History category, so it is not worth opening new accounts simply to try to boost this factor.

  • Credit Inquiries

This is the number of “hard pulls” on your credit report. A company will do a hard inquiry when you are applying for a new credit card, loan, or mortgage. If there are a lot of hard pulls, the bank will assume that you are desperate for loans or cards and will be more likely to turn you down.

Hard pulls will fall off of your report after two years. Again, there is nothing you can do in the short term to improve this aspect of your score.

The Takeaway

Improving your credit score starts with understanding your credit report and how the scoring works. While there are some things that you can do to improve your score quickly, the vast majority of your improvement will come from building good financial habits and avoiding the traps that you never knew existed.

Anything I missed? Let me know in the comments.

3 thoughts on “The Ultimate Guide to Your Credit Score”

  1. Side note – Mint sends email reminders about bills that are upcoming! If you have everything set up correctly, you really shouldn’t miss a bill going forward. It helps if you are juggling several accounts – especially if they are accounts you’ve inherited and not opened yourself!

  2. There is also a growing trend of credit card providers giving you access to your credit score every month. Made famous by the ever so annoying Discover Card commercials, but Bank of America also just introduced the feature this month. They will provide you the FICO credit score without it counting as a hard pull or any other negative effect.

    I have heard anecdotally over the years that their are different ‘styles’ of credit scores, while they should all be similar, you have a different score when applying for a mortgage versus a credit card versus an auto loan. The rationale is because while all are debt they are different styles like long-term, large notional amount, hard to pay off early in mortgage debt against revolving, flexible amount, month to month term for credit cards.

    Also, the frequency of your hard pulls is important and can cause short term fluctuations to your score. Having say 5 hard pulls in a single month because you are shopping for a mortgage at multiple places is more detrimental that having 5 hard pulls evenly distributed over the 2 year time period

  3. Citibank also gives you access to your credit score in connection with the credit cards they issue.

    Another thought about getting your credit report from each of the three credit bureaus, especially if you don’t have that access through your credit card issuer, is to space out your requests every 4 months, , for example, get it from Experian in January, Equifax in May, and TransUnion in September.

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