Chapter 2

Understanding The 5 Factors That Affect Your Credit Score

Written by Cheri Read

If you're trying to repair your credit, you absolutely need to understand all the different factors that go into calculating your credit score.

Fixing your credit without knowing about the five credit factors is like trying to win at chess without knowing all the rules.

While each scoring model uses slightly different formulas, you should know your FICO® score factors comprise of these five elements:

Credit Factor (% Importance)

Description

Payment history (35%)

Paying your bills on time

The amount of available credit you're currently using 

Credit history (15%)

How long you've been using credit

Credit mix (10%)

How many different types of debt you're using

New credit (10%)

How often you're applying for new credit

If you're confused as to what this all means, fear not.

This guide walks you through all five credit factors, and provides practical guidance on how to leverage each one to your benefit.

Only once you've understood what these five factors are and how they impact your credit score, can you start to take actionable steps to stack the odds in your favor and improve your score.

#1. Payment history: 35% of your score

Your ability to pay your bills on time consistently is the most important part of your credit score, accounting for 35% of your FICO® score.

As credit expert Scott Henderson explained it to us: "If you miss one payment, this will have a bigger negative impact than anything else."

Why does FICO® care about your payment history so much?

Well, it makes sense logically when you think about it: if someone loaned you money, and you were to pay them back on time, in full, month after month, then you've demonstrated your reliability and trustworthiness to take on credit.

But what if you were to pay back the loan late, or only partially? Then what you've demonstrated to future lenders is that you're a high-risk candidate to borrow money. 

So what's the best thing you can do to improve the "payment history" part of your credit score?

Action Step

It's important to note that all of your loans will show up as part of your payment history, including revolving loans and installment loans. And each is calculated evenly. In other words, a missed payment on a credit card counts the same as a missed payment on a mortgage. 

#2. Credit utilization: 30% of your score

Your "credit utilization"—or, the amount of available credit that you're using—is the second most important factor, accounting for 30% of your FICO® score.

Basically, if you consistently max out your credit lines this can indicate that you don’t handle your debt responsibly and can be seen as high credit risk to lenders.

So what's a good credit utilization ratio?

Try to shoot for around 30%—which means you're using no more than 30% of what’s available to you, inclusive of all lines of credit.

Let's look at an example:

Say you have a Chase credit card with a $6,000 credit limit, and an Amex card with a $4,000 limit. And you have a $2,500 balance on your Chase card and a $1,500 balance on your Amex card.

In this instance, your credit utilization would be 40%, which is 10% higher than the recommended 30% level. 

Action Step

  • "If you have high balances on these accounts, paying the balance down could be one of the quickest ways to improve your credit scores." — Louis DeNicola, credit expert

Take note that this number changes every time you make a payment or your credit limits are raised, so it is a relatively easy item to fix on your credit report

#3. Credit history: 15% of your score

The amount of time you’ve been using your credit accounts for about 15% of your total FICO® score.

Why does FICO® and the lenders care about how long you've been using credit? 

Well, if you have a really short credit history—say you've only had a credit card for six months—it's hard for lenders to know if you'd be an acceptable risk to loan you money at a low interest rate.

How do you improve the "credit history" part of your score?

Unfortunately, there is no "hack" we can give you, since it all comes down to time

But the longer you have accounts open with good payment histories, the more your score increases.

Action Step

  • Keep your credit cards open even if you aren't using them anymore—closing accounts will shorten your credit history, which will lower your credit score.

The good news is it shouldn’t take very long to build a solid history as long as you use what you have responsibly and keep a low utilization rate.

#4. Credit mix: 10% of your score

Lenders want to see that you can handle a variety of debt, and so having a diverse credit mix accounts for 10% of your FICO® score.

What do we mean by a "variety" of debt?

Basically, can you handle not only credit cards, but a mortgage, car loan, and student loan as well?

We can see this in action in the screenshot above, which is from when Mike checked his FICO® score for free using Discover's Credit Scorecard.

Discover is advising Mike that not having enough "loan activity" is hurting his score. 

To be honest, it's tough to give much of an "action step" here—in Mike's case, he rents an apartment in a big city and doesn't have the need for a car (so he doesn't have a mortgage or a car loan), plus he doesn't have any student loan debt.

We wouldn't advise Mike to go buy a house or lease a car just to bump up his credit score a few points, so it's always important to factor in your own personal life situation and understand that you can't always please the credit score algorithms. 

#5. New credit: 10% of your score

The "new credit" factor is simply the number of recent accounts you’ve opened.

Basically, if you open up a bunch of new accounts at the same time, it might lower your FICO® score because doing so makes you look like a credit risk, plus it adds to the number of hard inquiries on your credit. One or two new accounts probably won't hurt you, though.

Keep in mind this only applies to hard inquiries on your report, not soft inquiries. 

What's the difference between a hard and soft inquiry? Here are some examples:

Hard inquiries

Soft inquiries

Applying for a student loan

Employer background checks

Applying for a credit card

Credit card pre-approvals

Applying for a car loan

Renting a car

Applying for a mortgage

ID verification by financial institutions

Opening a checking or savings account

Checking your own credit score

It's worth pointing out that only hard inquiries made within one year factor into your credit score, and they drop off completely after two years.

Action Step

  • Don't go crazy applying for six different credit cards at once because they offer good rewards and miles—only apply for new credit when you truly need it.

What doesn't factor into your credit score

We've spent this post talking about all the things that go into calculating your FICO® score, but what about the things that don't count?

The Consumer Credit Protection Act establishes that you or your credit score cannot be discriminated against based on the following:

  • Race
  • Nationality
  • Marital status
  • Gender
  • Religion

Some factors, however, can be included in the scoring process, but FICO® chooses not to factor them in.

This includes things like your age and anything to do with your occupation, such as your employers, salary, or employment history.

Now, lenders will likely take these items heavily into consideration, but they will not be reflected in your score.

For example, if you're applying for a mortgage, the lender will almost certainly look into your income and your credit score, but your income is not part of your credit score—they are two separate considerations.

FICO® also ignores factors such as where you live, interest rates on your loans, your own credit inquiries, promotional inquiries, child support owed, or any other information not proven to be representative of your credit performance.

And you might be surprised to know that credit counseling isn’t reflected in your score, either.

What's next?

Now that you know how your credit score is calculated, it's time to move on to the next step: figuring out how to actually get a (free) copy of your credit report at the three major credit bureaus.