Welcome back, class. Last time, we went over some simple ways one could apply to get “good credit”. Now that you have a basic foundation of credit cards and how to use them (If you missed that lecture, read it here.), let’s dive deeper and talk about something intimately related to credit cards. Credit Score. What is it and what goes into it? These are some of the questions that I know that you all have and don’t worry because we will address them. After this lecture, one should have a basic knowledge about credit and theoretical ways in which one can actually improve one’s credit score.
Now, let’s begin.
A credit score is basically just a three digit number, ranging from (for people) 300 to 850. This number represents how “creditworthy” somebody else. In other words, it is a gauge used by companies to see how risky an individual is. Weather forecasters have thermometers to tell temperature, physicists have scales to determine weight, Companies have credit score.
You might be asking yourself at this point, “What about that number tells others how creditworthy I am?” Well, it is the “amount” of the digits. If we had two people credit scores, one significantly higher than the other (let’s say one had a score of 600 and the other had a score of 780), the one with the much higher credit score would be seen as more creditworthy.
(This is a simplified version of the truth. This is enough to get you started but also keep this in mind. There are many more factors that play a part in determining your personal creditworthiness, such as payment history and age of all your accounts. But we answer those questions.)
How do they figure out this number? Easy. They watch an individual’s behaviors, keep track of them in what’s called a credit report and use those records to determine their creditworthiness at any one time.
Calm down, CALM DOWN. I know this seems very NSA/Jame Bonds-ish but this is the only method of determining it. And before any of you ask, no, they don’t watch you while you’re sleeping. They aren’t Santa Claus.
In fact, the information they do receive is pretty limited, all things considered. They do not track all of our purchases made. They do not track our location. They only track a couple of things. I’ll write it here on the board:
- How well one pays their debt (Payment History, we discuss that last time.)
- How much one owes (things like auto loans, mortgages, credit card bills) (Amounts Owned or Credit Utilization)
- What is the average age of all your credit accounts (Length of credit history)
- How much “New Credit” you have
- What types of credit do you posses (Credit Mix)
See? That’s not a lot of information. (There are a few more things, but these are the most important ones.) Now, all things considered, each of these five do not contribute equally to a credit score. I think the breakdown of a credit score is around the lines of 35% comes from Payment History, 30% from Amount Owed/Credit Utilization, 15% from Length of Credit History, 10% for New Credit and 10% for Credit Mix.
So, if one takes all this information into account and wanted to improve their credit score by a large amount in the shortest amount of time, what would they do? Well, they would work on making something with a larger percent (like Amount Owed) better than something with a lower percentage (like Credit Mix).
To review, it would be advantageous for an individual to focus more on Amount Owed than Credit Mix, in theory, because Amount Owed carries more weight and can change one’s credit score in a bigger way than Credit Mix can.
Alright, I think that is all the time we have today. It seems you all were a little quiet today. If you have any questions, just drop a comment and I will try to get to you as soon as possible.
I will see you all next time. Class dismissed.
Professor Stealth Wealth 