(Updated: 27 July 2023)
A credit score is a number (that typically ranges from 300 to 850) which lenders use to determine the risk of loaning money to a given borrower. Your credit score is often the major deciding factor on whether you are able to secure a loan, take out an insurance policy, rent an apartment, or possible get a job.
As your financial profile changes, so does your credit score, therefore, knowing what factors can affect your credit score can help you to improve it over time. Let us explore the biggest factors that can impact your credit score.
What counts towards your score?
Your credit score shows whether you have a history of financial stability and responsible credit management. Based on the information in your credit file, credit agencies can compile your credit score. The FICO Score is the most commonly used credit score by top lenders across the globe.
Here are the elements that make up your score and how it affects your credit:
Payment History:
Payment history accounts for 35% of your FICO Score, as it reveals whether you can be trusted to repay funds that are lent to you, on time and in full. The components of your score considers the following factors:
- Have you consistently paid your bills on time for each account? As late payments can have a negative impact on your score.
- When late payments occur, how late were you: 30 days, 60 days, 90+ days? The later you are with processing payments, the worse it is for your score.
- Have any of your accounts passed onto collections? If so, this is a red flag to potential lenders that you may not be able to pay them back.
- Do you have any debt settlements, bankruptcies, foreclosures, lawsuits, or public judgements against you? These marks on your public record can be detrimental to your credit score from a lender’s perspective.
- The time since the last negative event and the frequency of missed payments affect the credit score deduction. For example, someone who missed several auto loan payments five years ago will be seen as less of a risk than a person who missed one big payment this year.
Amounts Owed
Amounts owed accounts for 30% of your FICO Score and looks at your credit utilization ratio, which measures how much debt you have compared to your available credit limits. This second most important component looks at the following factors:
- How much of your total available credit have you used? You do not have to have a R0 balance on your account to score high marks. However, lenders want to see that if you borrow money, you are responsible and financially stable enough to pay it back.
- How much do you on specific accounts, such as a mortgage or auto loan? Lenders like to see that you have different types of credit which you can manage responsibly.
- How much do you owe in total, and how much do you owe compared to the original amount on the instalment account? Again, less is better.
Credit History Length
Credit history length accounts for 15% of your FICO score and indicates to lenders how long you have been using credit. It looks at how long you have had credit obligations, how old your oldest account is, and what the average age of all your accounts are.
A long credit history is helpful, but this factor does not count against borrowers with a short history, especially if they have proven that they are able to make payments on time and do not owe too much.
New Credit
New credit accounts for 10% of your FICO score and looks into how many new accounts you have. It factors in all the accounts you have recently applied for and considers the last time you opened a new account.
Whenever you apply for a new line of credit, lenders do a hard enquiry, which is the process of checking your credit information during the underwriting procedure. Hard enquiries can cause a small, temporary decline in your credit as the score assumes that if you’ve opened several new accounts recently, you could be a greater credit risk. This is due to the thinking that people tend to open many new accounts when they are experiencing cash flow problems.
Types of Credit in use
One of the final things that the FICO formula takes into consideration when determining your credit score is whether you have a mix of different types of credit. It also looks at how many total accounts you have. Since this is a small component of your score, don’t worry too much if you don’t have a variety of new accounts available.
What isn’t in your score?
The following information about a person is generally not considered in determining your credit score:
- Marital status
- Race, colour, religion, national origin
- Salary
- Occupation, employment history, and employer (though lenders may consider this)
- Where you live
- Child/family support obligations
- Any information not found in your credit report
What can hurt your credit score?
There are certain core features of your credit portfolio that can have a great impact on your overall credit score, either positively or negatively. The following actions can hurt your credit score:
- Missing or late payments can be a red flag for lenders as it may indicate that you cannot handle your credit efficiently or will possibly be a non-payer.
- Using too much available credit can indicate to lenders that you are heavily reliant on your credit.
- Applying for a lot of credit in a short time require lenders to request a hard enquiry on your credit portfolio. These enquiries stay in your file for a minimum of two years and can degrade your credit score for a period of time. Therefore, having multiple hard enquires due to multiple credit request applications can negatively affect your credit score.
- Defaulting on your accounts is a huge red flag and can stay on your portfolio for up to a decade.
What it all means when you apply for a loan
The following guidelines below will help you maintain a good score or help you to improve your current credit rating:
- Watch your credit utilization ratio and be sure to keep your credit card balances below 25% of your total available credit.
- Pay your accounts on time, and if you must be late, don’t be more than 30 days late.
- Don’t open lots of new accounts all at once or even within a 12-month period
- Check your credit score about six months in advance if you plan to make a major purchase, like buying a house or a car, that will require you to take out a loan. This will give you time to correct any possible errors and, if necessary, improve your score.
- If you have a bad credit score and lots of flaws in your credit history, don’t despair. Just start making better choices and you’ll see gradual improvements in your score as the negative items in your history become older.
The bottom line
While your credit score is extremely important in getting approved for loans and getting the best interest rates available, you don’t need to obsess over the scoring guidelines to have the kind of score that lenders want to see. In general, if you manage your credit responsibly, your score will shine.
In order to see where you stand, in terms of your credit score, contact MarisIT and we will assist you with your credit score report.
