Your FICO score isn't a mysterious number drawn out of hat. Rather your FICO score is an exact algorithm based on your credit. Banks and other financial institutions use this score to determine your creditworthiness while insurance companies and even landlords use your credit score to determine insurance rates or whether you'll be a good tenant. Your score is comprised of five different aspects of credit:
When a borrower lends you money, they expect to be repaid. So, 35 percent of your FICO score is derived from account payment information from your creditors. When you miss a payment, this counts against your score. For every on-time payment, you demonstrate your ability to repay your debts as promised. FICO monitors more than just late payments, however. It measures bankruptcy, judgments, defaults on loans, finance company accounts, and mortgages.
Payment history also includes the severity of the delinquency, the amount that is past due, and the time since the last adverse item was recorded. Finally, payment history includes the number of past due items as well as the number of accounts that are marked "paid as agreed."
Length of Credit History
Length of credit history accounts for 15 percent of your total FICO score. Believe it or not, not having used your credit card for the last three months has a negative effect on your credit score. FICO monitors when you opened your account, the last time you opened a credit line, and the time since your last account activity.
Most people have a vague idea about credit inquiries affecting their credit score, but they don't understand just how much it impacts their ability to obtain credit. These inquiries, and new credit in general, accounts for 15 percent of your score. The number of new accounts you opened recently, the number of recent credit inquiries, the time since your most recent account opening, the re-establishment of a positive credit history, and the time since your last credit inquiry all count towards factoring this part of your FICO score.
Types of Credit Used
The number of various types of accounts plays a small role in your credit score. While some financial gurus spend a lot of time telling you to vary your account types, it only accounts for 10 of your overall FICO score. For example, if you diversify between credit cards, installment loans, mortgage loans, and consumer finance accounts, it will only impact your credit score in a very small way. Instead, focus more on payment history and the amount of debt you owe.
The amount of debt you owe is the second most important factor affecting a whopping 30 percent of your score. For example, if you $100,000 on your mortgage, this might have a negative impact on your credit score if you also owe $250,000 in other debts. Sometimes, lack of a specific type of balance can count against you too. The number of accounts you have open with balances also impacts your score as does the proportion of credit lines to maximum credit lines. For example, if you have an $8,000 credit limit on a credit card, and you charge up $7,500, it might hurt your score compared to a balance of just $4,000 on the same card.
Because your FICO score is an important measure of your creditworthiness, you should keep close tabs on it. Get a free copy of your credit report every year, check for mistakes, and report any errors to the issuing credit bureau immediately.
Post by Hayley Russell on behalf of SunbirdFX.com – Hayley is a freelance writer and used to work as a cfds broker. She enjoys writing articles for those that are new to the world of finance.