6 Things Every Functioning Adult Should Know About Credit Scores
Your credit score is a number that directly impacts major financial decisions, but for something so important, many of us don't really know much about it.
Below, we've spelled out the six basic things you need to know about credit - not to be an expert or to lecture your friends, but simply to function as a financially responsible adult.
1. What it looks like
Your credit score is a three-digit number between 301 and 850, and the higher, the better. Generally, you don't want your credit score to dip below 650, and you never want it below 600. Over 700 is largely considered a good score, and over 750 is considered excellent.
2. What it's used for (and why you should care)
Your credit score exists to help give lenders an idea of your trustworthiness.
The obvious loans are for your home and car, but someone expecting large-scale payments - anything from getting an apartment to opening a credit card - can run a credit check, explains Eric Adamowsky, cofounder of CreditCardInsider.com. "They use the number, in part, to determine whether you get a loan, and if so, how much interest you'll pay. Even a 2% difference in your mortgage's interest rate will be substantial over 30 years. That's thousands of dollars."
3. Who creates it
There are three companies called credit bureaus that gather information about your credit activity and calculate your score. These companies are Experian, Equifax, and Transunion. Your creditors (for instance, your credit card company or mortgage lender) report your credit activity to them, and they then use a formula to calculate your score.
Each company will come up with a slightly different number for a few reasons: Some of your creditors might neglect to report activity to one of the bureaus, there might be an error in one of the company's files (if so, you can correct it), and each company will calculate your score each time it's requested, so it will vary along with your most recent activity.
4. What FICO has to do with it
Bureaus don't create the formulas used for the calculations. The most widely used formula comes from the Fair Isaac Corporation, known as FICO.
As CreditKarma CEO Ken Lin explained on Reddit: "Each consumer has dozens of credit scores. You will never be able to see them all since many are not sold to consumers. This is further exacerbated by the fact that there are three bureaus, which means that each score has three variants. It is up to the bank to decide which credit score they want to use based on the price and how well the score predicts risk."
Since the FICO model is used most often, "FICO score" and "credit score" usually mean the same thing. "Most major lenders are using FICO, VantageScore, or a combination of scores," explains Adamowsky. "Since the methodology behind the scores is different, having multiple scores could give lenders a better picture of someone's credit risk."
5. What it's based on
The companies that create the calculations used to determine your score don't release the exact details to the public and are constantly tweaking them to best reflect a person's creditworthiness. "It's a bit of a black box in terms of what goes into your score," reflects Adamowsky. "Typically the breakdown isn't disclosed."
However, they're transparent about the factors that affect your score, and the general weight each factor has, if not the minute details of how.
For instance, FICO shares this breakdown on their site:
"Payment history is probably the biggest factor in terms of calculating your score," says Adamowsky. "Any negative marks against your account, like a 30, 60, or 90-day delinquency, is certainly going to impact your score more than any other factors." (You can read more about that in our roundup of ways to destroy your credit score.)
The next most important, he says, is your credit utilization: how much of your available credit you're using. The less, the better.
6. How to find yours
Services like CreditKarma, CreditSesame, and Credit.com will give you your score for free. Note that since bureaus don't provide their exact formulas and since your score is constantly changing, what you see at these sites might not be the exact number a lender will see when you go for a loan next month - but experts agree that these estimates are accurate enough to get a solid idea of your score.
Note that AnnualCreditReport.com, the site that provides your free credit report from each of the bureaus once a year, is not the best place to consult. While your report is free, it charges you for the score.