Credit seems very easy to understand, however there are some minor adjustments that can be made to maximize your credit scores prior to a major purchase. Knowing how your credit scores are calculated is very important and allows you to make minor adjustments that can save you thousands of dollars in interest per year.
There are 5 broad factors in calculating your credit score as well as some underlying or specific factors. As always, the key to good credit is making sure all of your payments are on time. See below for details on the 5 broad factors.
1. 35% of your credit score comes from your payment history. Timely payments on all of your accounts have the largest influence in building or hurting your credit. One single late payment or collection could drop your scores by 30 points or more.
2. 30% of your credit score is calculated by the percentage of use on your open accounts. Installment accounts typically have a higher usage than a revolving account. When you open a car loan or mortgage it is maxed out. The payments over the term of the loan reduce the balance and your usage. When it comes to credit cards, the balance compared to the limit is a factor.
3. 15% of your score is from your length of history. Having pen accounts for long periods of time shows that you have been responsible consistently. Newer accounts with less payment history do not help you as much as an old account with a positive payment history. Always leave your old accounts open when possible. Closing accounts can be helpful in some situations, but needs to be done strategically to maximize your credit scores.
4. 10% of you credit score come from inquiries and new attempts to open credit lines. You want to make sure you are ready to take a small penalty on your scores each time you apply for credit. An inquiry from a lender could reduce your score by 5 points or more.
5. The final 10% of your credit score comes from having a healthy mix of credit. It is important to have different types of credit lines to show you can manage them properly. The best formula is to have no more than 3 revolving lines for each installment line. Be sure to remember installment lines end when they are paid off so you do not get outside of the healthy mix.