How Credit Scores Are Calculated–and How to Raise Yours Fast

Your credit score can open doors… or slam them in your face. This three-digit number can determine where you get to live, what kind of car you can drive, and even where you work!

credit scores over people's heads in a crowd

There are a lot of myths and mysteries surrounding credit scores. If you’ve ever wanted to know how credit scores are calculated, why we use them in the first place, and—most importantly—how to raise yours as quickly as possible, then you’ve come to the right place.

A Brief History of Credit Scores

The modern concept of credit reporting didn’t come into being until the late 19th century, alongside the rising popularity of department stores. Unlike your local mom-and-pop general store, where everyone knew your name and where to find you if your bill went unpaid, department stores served thousands of customers.

As Josh Lauer, associate professor of communication at the University of New Hampshire, explains, “The retailers needed a way to attract consumers and ensure they would be paid back, so they collected information about their customers and submitted it to a local credit bureau.”

woman stressed about overspending

At the time, credit bureaus kept lists of “marital status, ethnic background, credit history and age” to rate a person’s creditworthiness. Obviously, there was a lot of subjective judgment involved. There were also hundreds of individual credit bureaus across the United States, and they didn’t necessarily share information. Surely there must be a better way, right?  

When computers began to replace paper records, it became possible to centralize credit reporting. The thousands of existing credit bureaus were consolidated until just a few remained. FICO Scores was founded in 1956, and in 1989, the company developed the modern concept of the credit score.

How Credit Reporting Works Now

According to Equifax, “Credit bureaus (also known as credit reporting agencies or CRAs) do not determine whether you qualify for a loan or at what rate. Credit bureaus collect and maintain a timely history of your credit activity as reported by the lenders and creditors with whom you have accounts, along with certain other information such as bankruptcies and collection items.”

Individual creditors, such as credit card issuers, report your activity to the bureaus. However, not all lenders will report to every single bureau. That’s why your credit report and score can be different depending on which agency (Equifax, Experian, or TransUnion) you look at. That’s also why it’s so important to check all three reports once a year. Because this information is reported by the individual companies or agencies that hold your debt, mistakes can and do happen. Although credit records are now managed with computer technology, the data is still supplied by people—and sometimes people make mistakes.

excellent credit score

Your credit score does not look at your income, employment status, or demographic information such as age, race, and sex. However, your numerical score is just one piece of information that lenders use to determine your creditworthiness.

The Formula for Calculating Your Credit Score

FICO Scores are calculated by looking at a variety of data linked to your credit history and spending activity. The data is broken down into five basic sections:

  • Payment History
  • Amounts Owed
  • Length of Credit History
  • New Credit
  • Credit Mix

Taken together, these five categories determine your numerical score. But they’re not all weighted equally. In fact, just two of the categories make up 65% of your total score.

Credit Score rating based on debt reports showing creditworthiness or risk of individuals for student loan, mortgage and payment cards, concept with business person touching scorecard on screen

Payment history makes up a whopping 35% of your score. It looks at the percentage of on-time payments that you’ve made. The closer you are to 100% on-time payments, the better your score will be. According to Wells Fargo, “Payments made over 30 days late will typically be reported by your lender and lower your credit scores. How far behind you are on a bill payment, the number of accounts that show late payments and whether you’ve brought the accounts current are all factors.”

Just remember that every time you miss a payment, you lower your score—and it can take a long time to get back to where you were. Making regular, on-time payments is the single biggest thing you can do to impact your credit score. If you have a habit of forgetting about due dates, consider setting up automated payments.

How much you owe also has a huge impact on your credit score at 30%. However, this is less about the actual dollar figure than the ratio between your debt and your available credit. When you ride close to maxing out your credit cards month after month, it sends the message that you’re not very responsible with spending and are therefore a riskier bet for future lenders.

According to Investopedia, “Lenders typically like to see credit utilization ratios—the percentage of available credit that you actually use—below 30%.” That means if you had a total of $10,000 in potential credit, the maximum balance you could carry is $3000.

Next, the length of your credit history is weighted at 15% of your FICO Score. Many young people get their first credit card after graduating high school, which can be a very good thing if they’re responsible with the card. The main takeaway here is that it’s usually best to keep older accounts open and in good standing, even if you don’t use them often, rather than closing them.

The final two factors make up ten percent each of your overall score. New credit refers to how many new lines of credit you’ve applied for recently. That’s right—just applying for credit can damage your score if you fill out too many applications in a short period. Your credit mix looks at the balance of debt types. Generally speaking, you’ll want to demonstrate both revolving credit (i.e., credit cards) and installment credit, such as student loans or mortgages.

Read More: How to Pay Off Your Student Loans Faster Than You Ever Thought Possible

What You Can Do to Boost Your Score Fast

Now that you know how credit scores are calculated, it’s time to work on your own score. Unless you already have perfect credit, there’s room to improve!

man is distraught over bad credit score

Request Your Free Report

The first step you should take is to request your credit report. You are entitled to a free copy of your report each year from all three major credit bureaus: Equifax, Experian, and TransUnion. You might be tempted to request all three at once, but it’s a better idea to spread out the requests over the year and pull up a different one every four months.

Be aware that there are scam websites out there that will charge you hidden fees or even trick you into entering your personal information. The only place to get your guaranteed free credit reports is  

Look for Errors

Check your credit report for any errors or unfamiliar accounts. Reporting those errors can take a little effort, but it’s worthwhile. You’ll need to file a claim with the credit bureau that issued the report, and you may also need to contact the credit furnisher listed. The Consumer Financial Protection Bureau walks you through these steps and even provides templates for letters to send with your claims.

Resolve Late Bills

Once you’ve dealt with any errors on your report, it’s time to roll up your sleeves and deal with everything else. Commit to paying bills on time going forward and get caught up on any bills that are past due but not yet in collections. It’s vitally important to get those accounts back in good standing before they become a charge-off by the credit issuer.

Pay Off Negligent Accounts

Next, focus on paying off any accounts in collections. You can often settle for far less than the balance of your account since debt collectors buy these accounts for pennies on the dollar.

The downside is that once a collection has been paid off, it will remain as a black mark on your credit history for seven years. Still, it’s better to take care of those issues as soon as possible—if only for your peace of mind, if nothing else. If you’ve been dodging calls from debt collectors, imagine how relaxing it’ll be when they finally stop.

Pay Down Balances

Once all of your accounts are in good standing, work on paying down your balances. The closer you keep your percentage of used credit to zero, the higher your score will be. There are several different strategies for paying off debt as quickly as possible, but the two most popular are the avalanche method and the snowball method. Read more about them here!

Be Sparing with Future Credit Applications

Finally, proceed with caution if you’re tempted to open a new line of credit or take out a loan. While it might seem like getting a new credit card would boost your total available credit and therefore raise your score, that can backfire if you apply for too many lines of credit within a short period of time. Take a measured approach to acquiring new debt, and prioritize maintaining your oldest lines of credit rather than adding new ones.

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