Credit Score for Beginners
Lenders and creditors use credit scores to assess how financially responsible you are. Your score impacts the loans you qualify for, the interest rate you’re given, and your ability to rent and own property like vehicles and homes.
Understanding your credit score makes navigating your financial life a whole lot easier. Here’s what you need to know.
What is a Credit Score?
A credit score is a three-digit number designed to predict how reliable you are financially. Credit scores are typically between 300 and 850 — the higher, the better.
What Makes Up Your Credit Score
Your score is calculated based on five factors, each accounting for a different percentage of your score:
- Payment History (35%)
- Amounts Owed (30%)
- Length of Credit History (15)
- Credit Mix (10%)
- New Credit (10%)
Payment History. Lenders want to know you’ve paid your bills on time in the past. Fair, right? If you have, this aspect of your score will look great. If you’ve missed payments left and right, this area won’t look too hot (don’t worry; we’ll address this later!).
Amounts Owed. Having an outstanding balance isn’t bad, per se. However, if you’ve maxed out your available credit, it may signal to lenders that you’re spread too thin financially.
Length of Credit History. Generally speaking, the longer you’ve managed credit effectively, the better, although it isn’t required for a solid score. Lenders want to know you’ve got some experience under your belt before working with you.
Credit Mix. While it isn’t necessary to have multiple lines of credit, having a mix — like a mortgage, student loan, and car loan — can show lenders you’re able to effectively manage multiple lines of credit.
New Credit. Have you applied for a credit account recently? If so, this counts as new credit. If you apply for several new lines of credit in a short time period, it can be a red flag to lenders that you’re struggling financially.
Why Credit Scores Exist
Think of it like this: would you lend $1,000 to someone if you didn’t know anything about them? Probably not.
Lenders are the same. They want to know you’re financially responsible before shelling out cash to you. However, there has to be a standardized system for evaluating people. It wouldn’t be fair for lenders to evaluate customers based on arbitrary metrics. Credit scores are that standardized system.
Why You Need a Good Score
Each time a lender offers a customer a loan, they’re taking on a level of risk. There is no guarantee they’ll get their money back on time. So, they’ll use your credit score as an evaluation and to inform the offer they give you.
If a lender checks your credit score and sees that it’s low, they’re more likely to offer you a less-than-ideal offer — like a higher interest rate or less favorable terms. If your score is high, however, you’re more likely to land ideal offers — like a lower interest rate.
Here’s how a mortgage loan might look for two different people, based on their credit score:
The same applies for car loans, student loans, and the like. The better your score, the more likely you are to receive favorable loan terms that can save you money in the long run.
How to Find Your Credit Score
You can obtain your credit report from a variety of sources — credit card companies, banks, apps like True, and credit monitoring services.
Step 1: First, log into your credit card’s online portal. If available, use the search feature to find your credit profile within the platform.
Step 2: If your credit card company doesn’t provide your score, reach out to your bank or credit union. Most give customers a complimentary credit score.
Step 3: If neither offer a free credit score, download an app like True Finance, Credit Sesame, or Credit Karma. All three offer free credit scores, right in the palm of your hand.
Step 4: If you’re unable to access any of the outlets above, consider purchasing your credit score from a credit monitoring service like MyFICO.
What is Considered a Good Credit Score?
Once you’ve found your score, the next question is typically “Is this score even good?” Here’s how the scores break down:
If your score is lower than you’d like, don’t panic — only around 21% of consumers have a credit score in the Excellent range. Plus, there’s a variety of actions you can take to improve your score.
How to Improve Your Score if You Have No or Poor Credit
If you have no credit, consider opening a secured credit card, becoming an authorized user, or asking for rental payments to be reported. If you have poor credit, examine the roots before making any decisions.
If You Have No Credit…
Consider a secured card. A secured credit card is one that requires a cash deposit as collateral. The deposit typically determines the credit limit of the card and is held by the issuer in case you fail to make payments. They’re commonly used to build or rebuild credit.
Become an authorized user. If you know someone with good credit, ask to be an authorized user on their credit card. This allows you to reap the benefit of their positive credit history, which can improve yours.
Ask for rental payments to be reported. If you have a history of renting, ask your landlord to report your on-time rental payments to credit bureaus. This will allow your rent payments to help build your score.
If You Have Poor Credit…
Address the root. Before making any financial decisions, obtain a copy of your credit report. Legally, you’re entitled to one free copy per year from AnnualCreditReport.com.
Once receiving your credit report, check for errors such as:
- Incorrectly reported debts
- Incorrect payment dates
- Wrong names or addresses
If any information is inaccurate, dispute the errors by calling the credit bureau directly.
Address the problem. If the information on your credit report is accurate, begin to address the aspects of your score that aren’t up to par. For example, if your score is hurting because…
- You have too large of an outstanding balance → Pay off what you can.
- You have a poor payment history → Consider writing a goodwill letter to request late payments be removed from your credit history.
- You’ve applied for too many new lines of credit → Take a pause on signing up for new credit.
A poor credit score isn’t a death sentence — there are ways to recover it. Start by understanding how your score works and why your score isn’t where you’d like it to be. Then, take actionable steps like obtaining a copy of your credit report and addressing the roots.
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