How Are Credit Scores Calculated?
Nobody knows exactly, but we can safely surmise that five factors are important.
The three major credit bureaus all use different algorithms to calculate credit ratings. Furthermore, none of them reveals the exact formula that they use. Even so, it seems to come down to five factors, in order of importance:
- Payment history -- Does the borrower tend to pay their bills in full and on time? This is probably the most important aspect of one's credit score. Therefore, pay your bills on time to raise your scores.
- Outstanding debts -- How much does the borrower currently owe? You should owe something but not much. Owing a little bit and paying on it demonstrates that you pay your bills.
- Credit history -- Has the borrower paid off debts in the past? If so, it helps the scores. If not, there is little that can be done to repair this aspect of your score.
- New credit -- Has the borrower applied for or been extended a lot of credit recently? If so, it would tend to lower the score.
- Credit in use -- How much credit in total is currently extended to the borrower? This is not the same as outstanding debt because you may have credit lines that you do not use. Close those to raise your score.
To raise your scores, you have to consider all five of those factors. The only one over which you have no control is your credit history, but even if you have a checkered past with regard to credit history, you can still raise your scores by paying attention to the other five areas.
The first step to a better credit reputation is to check your scores on all three bureaus so that you can see where you stand currently.
