If you’re planning on taking out a loan, or even if you’re just worried about how many credit cards you’ve taken on lately, the fundamentals of credit scoring are probably of interest to you. While the specific credit scoring formulas that each credit bureau uses is private information, it is helpful to know some basics to the credit scoring process.
Credit scoring is the act of taking your entire credit picture and history and creating a numerical snapshot of it – your credit score. A lender contemplating giving you a substantial loan will probably look at your entire credit report, but the first impression, the credit score, is what will tell them whether they should even consider giving you a loan, or what kind of terms you are likely to be eligible for.
Your credit score is based on a secret formula that takes into account a variety of factors, including things like your debt-to-income ratio, your amount of available credit vs. amount of utilized credit, your income and your payment history. The number that results should give you an idea of the level of credit risk lenders are likely to assign to you. The higher the number, the more likely you are to get a loan at the most favorable terms, because this indicates that you are a lower risk.
Credit scores are not etched in stone. Credit reporting bureaus are continuously adjusting their scoring based on your actions. When you pay off a credit card, it affects your score. When you add a credit card, it affects your score. Every time you are late with a payment that can affect your score too. The best way to improve your score is to improve your borrowing practices. Before borrowing any more (unless you are getting a consolidation loan), try to make sure you are up-to-date with your current creditors. Adjust your budget so you can pay more than the monthly minimums. Get credit monitoring with a credit report and score from CreditScore.com. Use that information to guide your future borrowing practices. There are definitely things you can do to affect the credit scoring process, and the sooner you get started on improving your score, the sooner you will increase your borrowing power.