Do you know how credit bureaus are calculating your credit score?

Your credit score is based on information from credit reports and serves as a way for creditors to analyze the likelihood you will pay back your loan on time. This credit score is a critical piece of your application because it determines how much you will pay for that mortgage, auto loan or lease, business loan, credit card, etc.

By now, you have heard about your credit score and have likely even seen it in a credit report. But how exactly are these credit bureaus coming up with this score?

How Credit Scores are Calculated

Credits score range from 850 to 350, with 850 being the highest credit score possible. Three U.S. credit bureaus—Equifax, Experian, and Transunion—collect your information from your creditors then calculate your credit score. As a result, you actually have three credit scores.

As a mortgage lender, my team typically orders a credit report that merges information from all three credit reports when you apply for your home loan. We look at all of the information and often use the middle or lowest credit score to evaluate your application. 

We often hear advertisements saying they can help you improve your credit score, or you may have been advised in the past to improve your credit score for applying for a particular loan. What does that mean and how is it possible?

The 5 Things That Impact Your Credit Score

Your credit score depends on five factors:

• Timely payment history
• Balance-to-limit ratio
• Length of credit history
• Types of credit mix
• New credit and inquiries

Not each factor is created equal. Let’s talk about each factor and its weight in calculating your credit score.

Timely payment history

Timely payment history is the largest contributing factor to your credit score at 35%. It is determined by how often you pay your bills on time, how often you miss payments, how overdue your payments are, whether or not you have late payments, and how recently those missed payments occurred.

If you want to improve your credit score, ensuring all of your payments are complete and on time is critical. 

Balance-to-limit ratio

Also called a credit utilization ratio, the balance-to-limit ratio impacts 30% of your credit score. Credit bureaus analyze how much you owe and compare it to the amount of money you have in available credit. If you have a low ratio, it suggests that your balance is manageable. Conversely, a high ratio indicates to creditors that you may be less able to pay off your debts. 

According to Experian, you want to aim for a balance-to-limit ratio of 30% or lower. If you find that your ratio is higher than that, create a plan to pay off (or at least pay down) debts, spread payments out over multiple cards, or ask for credit limit increases. Keep in mind that it is not advised that you close lines of credit in these efforts.

Length of credit history

The length of your credit history impacts 15% of your overall credit score. Credit bureaus consider how long each credit account has been open, the ages of your oldest and newest accounts, and the average age of all accounts.

Types of credit mix

Your credit mix includes revolving accounts such as credit cards and installment accounts such as loans, and it impacts 10% of your credit score. Credit bureaus look for a healthy balance of the two types because it demonstrates that you can balance different types of credit. Paying off a loan or closing an account may reduce your credit score by a few points, but it may be worth reducing your debt. (Your certified mortgage planning specialist, like myself, can help you choose which tactics are best for your situation.)

New credit and inquiries

Recent credit inquiries impact 10% of your credit score. This includes activities such as recent inquiries by creditors. I know many home buyers worry about multiple lenders pulling their credit. Luckily there are reports my team can use that are more of a “soft pull” of credit that don’t impact your credit score but allow us to begin developing your personalized mortgage plan. Once you start our application, we’ll do a normal credit pull.

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Are you ready to build your own personalized mortgage plan? Then schedule your free initial consultation today.

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