What is Credit Score?

Whenever we start shopping around for a loan, the first thing that we are asked about is credit score. Whenever we apply for a credit card, first of all our credit score is checked. Even small things such as car loan is impacted by our credit score. Credit score seems to be a godly number that can somehow impact all our financial dealings. Still, many of us are actually not aware what the hell credit score is. Lets find that out.

Whenever you apply for credit - whether in form of a credit card, or car loan, or mortgage - lenders want to know the risk associated with you. They want to find out what kind of risk they would be taking if they loan the money to you. So, to determine the risk, lenders use credit score.

A credit score is a complex mathematical model that evaluates many types of information in a credit file. Credit score is also commonly referred to as FICO score. This is because Fair Isaac and Company made this model to calculate the credit score (FICO is acronym for Fair Isaac and Company). This is a very complicated model, and takes into account a whole lot of factors.

Each person has three credit scores, one for each of the credit bureaus: Equifax, Experian, and TransUnion. Each of the score is based on the information that each individual credit bureau maintains on their credit history file for you. FICO scores keep changing as the information associated with you changes.

As I already mentioned, FICO scores take a whole lot of factors into account to determine your score. These factors can basically be grouped into 5 categories:

Payments History: This generally carries 35% importance in your FICO score. This category covers factors such as (i)payment information on various types of accounts, such as credit cards, loans etc. (ii) adverse public records, such as bankruptcy, judgments, etc.) (iii) Delinquency information, etc.

Amounts Owed: This generally carries 30% importance in your FICO score. This category covers factors such as amount owing on accounts, number of accounts with balances, proportion of credit lines used, proportion of installment loan amounts still owing, etc.

Length Of Credit History: This generally carries 15% importance in your FICO score. This category covers factors such as time since accounts opened, time since account activity, etc.

New Credit: This generally carries 10% importance in your FICO score. This category covers factors such as number of recently opened accounts, number of credit inquiries, time since recent account opening, time since recent credit inquiry, etc.

Types Of Credit Used: This generally carries 10% importance in your FICO score. This category covers factors such as number of various types of accounts.

FICO score takes all the above factors into consideration while arriving at the score. The percentage of each factor given above are just indicative. They might vary for persons based on the type of credit information available.

As might be obvious from above, FICO scores do not leave any stone unturned while calculating your score. So, these scores fairly represent your financial standing. Lenders use these scores to determine the amount of money they can loan to you, and duration of such loans. Interest rates for such loans can also vary based on credit score. Generally, a person with good credit score gets much lesser interest rate than a person with bad credit score.

I hope this small article helps you understand what a credit score is, and what different factors play a role in calculation of credit score. This information would help you to consciously work towards improving your credit score. A good credit score can save you tons of money, when you start to shop around for loans.