How Credit Scores Are Done

Having a good credit scores helps a person out when it comes to getting a good rate on a home loan or buying a car with available low financing. Various components of a person's credit history make up the credit score, including any past late payments and whether or not someone applies for new credit cards.

Algorithms

Credit scoring provide a means for lending institutions to judge an individual's ability and likelihood to repay a loan, as well as the additional interest. Complex algorithmic formulas decide a person's credit score. Each of the three credit bureaus uses its own formula to determine a credit score, causing some degree of difference in the scores. In addition, credit bureaus rely upon the VantageScore, a formula devised by all three of the credit bureaus.

Importance

An individual's credit score carries a great deal of impact on many areas, ranging from the amount of interest the individual pays on a mortgage loan to whether or not businesses will lend him money. In some instances, the difference in credit scores results in interest rates that differ by as much as 4 percentage points, with higher credit scores paying a lower interest rate. Before engaging in any kind of financial borrowing, a person should always check out his credit score to get an idea as to how lenders view him.

Composition

Credit bureaus use five different areas to determine credit scores. The largest percentage comes from a person's payment history. Payment history includes the dates of all payments made on various accounts, as well as late payments and any pending debt collections. Payment history accounts for 35% of a credit score. The next largest factor in a credit scores comes from the amount of money owed. The amount of money owed gets weighted against someone's available credit. The more available credit in someone's account, the better the credit score. The amount of money owed accounts for 30% of available credit. Credit history accounts for 15% of a person's credit score. Credit history includes both when the person first opened credit accounts and how often the accounts are used. After that, 10% of the credit score examines the kind of credit accounts someone possesses, such as installment credit and revolving credit. The final 10% of a credit score comes from any attempts to open new accounts or procure more credit. Inquiries for purposes of obtaining more credit also compose this final percentage.

Changing Score

Credit scores constantly change, depending on the activity. When someone pays down credit card debt, for example, this changes the percentage of available credit. Paying down credit card debt raises a person's credit score more quickly than repairing credit history, since the credit history contains delinquencies in the past.