Credit Scores 101: What they are and why they matter

Having a good credit score is key to being able to access the loans you need, from auto loans to home loans to credit cards. Don’t be left in the dark about how credit scores work - consider this your crash course into the world of understanding credit. 

What is a Credit Score?

A credit score is a numerical representation of your creditworthiness, ranging typically from 300 to 850, where a higher score is better. Where you fall within that range depends on many factors that reflect your loan history and potential to repay. The higher the credit score, the more you are considered a low-risk borrower, and you’ll have access to a wider choice of loans at lower rates.

How is a Credit Score Calculated?

Credit scores are calculated using a mix of several factors, each with its own weight and scoring model. The most common used credit scoring model is the FICO score, which considers the following: 

1. Payment History: This is the most significant factor. It looks at whether you’ve paid your past credit accounts on time.
2. Amount Owed: This factor examines the total amount of credit and loans you’re using compared to your total credit limit. This is also known as your credit utilization ratio.
3. Length of Credit History: Your credit history considers how long your credit accounts have been active. The longer your credit history, the more potentially positive your score.
4. Credit Mix: This refers to the type of credit accounts you have, such as credit cards, mortgages, and car loans. A diverse mix can positively influence your score. 
5. New Credit: This looks at the number of recently opened credit accounts and recent “hard inquiries,” which are inquiries to the credit bureaus made when you apply for credit.
 

Why Do Credit Scores Matter?

Much like the famous line “with great power comes great responsibility,” something similar can be said for credit scores: “with great credit comes great opportunity.” Paying attention to your credit and keeping your credit score high gives you more options.

1. Loan Approval: Lenders use your credit score to determine whether to approve or deny your loan application. And you guessed it, a higher score means a higher chance of approval. 
2. Interest Rates: Your credit score can affect the interest rate you receive on loans and credit cards. Borrowers with high credit scores tend to receive lower interest rates which saves money over time.
3. Credit Limits: Because individuals with higher credit scores are considered to be less risky, lenders may feel more comfortable offering higher loan amounts or credit limits.
4. Rental Applications: Even though you’re not getting a loan when you rent a home or apartment, landlords often check credit scores to assess the risk of renting to potential tenants. 
5. Employment Opportunities: Some employers check credit scores and history as part of their hiring process, particularly for positions that require financial responsibility.

If you’re concerned about your credit score, or just starting out in your credit journey, Financial Partners is here to help! We offer a range of products and services to get you building credit safely, or get you back on track.