July 20th 2023.
What are Credit Scores?
Your credit score is a three-digit number that lets lenders quickly access the risk level of lending you money, called your creditworthiness. Your credit score is tied to your social security number and stays with you throughout your life. Credit scores change frequently.
A higher credit score indicates a borrower is more likely to repay a loan and make on-time payments, while a low credit score indicates a borrower is less likely to make loan payments.
The three main credit bureaus for credit reports and scoring are Experian, TransUnion, and Equifax. Those three credit reporting agencies own most of the market share for collecting, analyzing, and distributing consumer credit information. Credit scoring models vary by credit bureau.
FICO Scores
The most commonly used credit score is the FICO® score. Over 90% of the top lenders use FICO scores every day to make financing decisions. FICO scores range from 300-850. The average FICO score in the US is 714.
Your FICO credit score varies at each of the three credit bureaus because each calculates your score differently based on its credit report for you. In addition, there are separate versions or variations of FICO scores for different aspects of lending. For example, some lenders might use your FICO Score 2 for a mortgage loan, while others use FICO Score 4 or FICO Score 5.
FICO developed the FICO score model in 1989 when the enterprise was still called Fair, Isaac, and Company.
VantageScores
The three major credit bureaus developed the VantageScore® scoring model in 2006 to standardize the consumer credit score model. Your VantageScore is the same number at all three credit bureaus.
FICO remains the dominant credit score in financing, but VantageScore has gained market share since its introduction. Credit scoring models often compare your credit activity with the credit behavior of individuals with similar profiles.
Business Credit Score
As a small business owner, you should also be aware that your business has its own credit score. However, business credit scores work much differently than consumer credit scores. See our essential guide on business credit scores for more information.
What’s a Good Credit Score or Bad Credit Score?
There’s no specific cutoff for the defining line between a good and bad credit score. The most commonly recognized credit score ranges are:
Excellent: 800+.
Very good: 740-799.
Good: 670-739.
Fair: 580-669.
Poor: 300-579.
However, most lenders set their own criteria for a good or bad credit score.
Why are Credit Scores important?
Credit scores are a significant determining factor when you need to borrow money. Examples include mortgages, auto loans, rental or car leases, personal loans, and small business loans. It’s a vital part of managing personal finance decisions.
Lenders always consider their risk level when reviewing a loan request. A high credit score means low risk, while a low credit score means high risk. Many lenders have a minimum credit score requirement, which is their cutoff for eligible borrowers.
Your credit score directly impacts your approval and the interest rate you receive. Bad credit borrowers might have to get a cosigner, make a larger down payment, or put up more collateral to offset their credit risk level.
Some utility companies might also review your credit history to see if you must make a down payment. Auto insurance companies often consider your credit scores as one of their risk factors when determining your premium.
It can also impact employment. An employer might look at an applicant’s credit score to assess reliability.
How do Credit Scores work?
Your credit score is based on the information in your credit report, which includes your open accounts, loan history, credit usage, payment history, and more. Each factor comprises a percentage of your credit score:
Payment history: 35%.
Credit utilization: 30%.
Credit history: 15%.
Credit mix: 10%.
New credit: 10%.
Payment History: This category measures your track record of paying bills. It accounts for any late payments and how late they were. On-time payments will gradually raise your score over time. Late payments, and defaults, can quickly lower your score.
Credit Utilization: Your credit usage, or utilization, is your current debt burden. This measure uses the credit utilization ratio, the percentage of your existing debt over your available credit. For example, if you have a credit limit of $10,000 and have $2,000 in debt , your utilization ratio is 20%. A credit utilization ratio over 30% will negatively impact your credit score.
Account history: This refers to how long your accounts have been active. It’s sometimes called credit history, length of credit history, or “time in file.” The longer an account is open, the more positive impact it has on your credit score. Most credit bureaus use an average account history length.
For example, if you have three accounts, one open for 10 years, one open for 6 years, and one open for 5 years, you’d take the sum and divide it by the number of accounts , to get at an average account history of 7 years. Most accounts five years or older help build credit. A FICO study revealed that people with a credit score in the 800-850 range have an average account history of 128 months .
Credit mix: Successfully managing different types of credit can help improve a credit score. Types of credit include installment loans, revolving credit such as credit card accounts, consumer credit, and mortgages.
New credit: Applying to open a new credit account results in a hard credit inquiry, which can lower your credit score. You should avoid opening too many accounts simultaneously to avoid too many hard credit pulls.
How do personal credit scores impact Small Business Loans?
Your personal credit score plays a role in business loans as well. Commercial lenders look at a small business owner’s personal credit score and the business’s credit score. The personal credit score is weighed more heavily for sole proprietors or younger businesses that haven’t established business credit.
As with consumer financing, a higher credit score means more loan options, higher approval rates, and lower interest rates. A lower score means fewer options, lower approval rates, and higher interest rates.
Small business owners must know their credit score and financial health before applying for a business loan. If you have poor credit, you might want to take steps to boost your credit score before applying.
Frequently Asked Questions
Here are the most common questions about credit scores.
How is my Credit Report related to my Credit Score?
The credit bureaus calculate your credit score based on the information in your credit report. The information in your credit report comes from the various financial services, accounts, or bills you pay. Credit cards, loans, mortgages, and other credit-based accounts are almost always reported. Most banks or credit card companies issue a monthly report to the credit bureaus.
Some bills, like utilities, rent, and subscriptions, may get reported. Utility bills are more commonly reported but not always. You can also use a service like Experian Boost® to add accounts that aren’t usually reported to your report. That can quickly increase your score if you have a positive payment history.What are Credit Scores?
Credit scores are a three-digit number lenders use to quickly assess a borrower’s risk level when considering them for a loan. This number is based on your social security number and it stays with you throughout your life. It is important to note that your credit score can change often.
A higher credit score indicates that you are more likely to make on-time payments and repay your loan, whereas a lower score suggests you might not be able to make payments on time. The three main credit bureaus for credit reports and scoring are Experian, TransUnion, and Equifax.
FICO Scores
The most widely used credit score is the FICO® score. Over 90% of the top lenders refer to this score when making financing decisions. The FICO score ranges from 300-850 and the average score in the US is 714. Your score might vary at each of the three credit bureaus as they calculate your score based on different credit reports for you. There are also separate versions of FICO scores for different aspects of lending. For example, some lenders might use your FICO Score 2 for a mortgage loan, while others use FICO Score 4 or FICO Score 5.
VantageScores
The three major credit bureaus developed the VantageScore® scoring model in 2006 to standardize the consumer credit score model. Your VantageScore is the same number at all three credit bureaus. Although FICO remains the dominant credit score, VantageScore has gained market share since its introduction. Credit scoring models often compare your credit activity with the credit behavior of people with similar profiles.
Business Credit Score
As a small business owner, you should also be aware that your business has its own credit score. Business credit scores work differently than consumer credit scores. See our essential guide on business credit scores for more information.
What’s a Good Credit Score or Bad Credit Score?
There is no specific cutoff for the defining line between a good and bad credit score. The most commonly recognized score ranges are:
Excellent: 800+.
Very good: 740-799.
Good: 670-739.
Fair: 580-669.
Poor: 300-579.
However, most lenders set their own criteria for a good or bad credit score.
Why are Credit Scores important?
Credit scores are a major factor when you need to borrow money. They are essential when applying for mortgages, auto loans, rental or car leases, personal loans, and small business loans. It is a vital part of managing personal finance decisions.
Lenders assess their risk level when reviewing a loan request. A high credit score means low risk, while a low credit score indicates high risk. Many lenders have a minimum credit score requirement. Your credit score also directly impacts your approval and the interest rate you receive. Bad credit borrowers might need to get a cosigner, make a larger down payment, or put up more collateral to offset their credit risk level.
Some utility companies might also review your credit history to see if you need to make a down payment. Auto insurance companies often use your credit scores as one of their risk factors when determining your premium. An employer might also look at an applicant’s credit score to assess their reliability.
How do Credit Scores work?
Your credit score is based on the information in your credit report, which includes your open accounts, loan history, credit usage, payment history, and more. Each of these factors comprises a percentage of your credit score:
Payment history: 35%.
Credit utilization: 30%.
Credit history: 15%.
Credit mix: 10%.
New credit: 10%.
Payment History: This category measures your record of paying bills. Any late payments or defaults will lower your score. On-time payments will gradually raise your score over time.
Credit Utilization: Your credit usage, or utilization, is the percentage of your existing debt over your available credit. A credit utilization ratio over 30% will negatively impact your credit score.
Account history: This refers to how long your accounts have been active. The longer an account is open, the more positive impact it has on your credit score.
Credit mix: Successfully managing different types of credit can help improve your credit score. Different types of credit include installment loans, revolving credit such as credit card accounts, consumer credit, and mortgages.
New credit: Applying to open a new credit account results in a hard credit inquiry, which can lower your credit score. You should avoid opening too many accounts simultaneously to avoid too many hard credit pulls.
How do personal credit scores impact Small Business Loans?
Your personal credit score plays a role in business loans. Commercial lenders look at a small business owner’s personal credit score and the business’s credit score. The personal credit score is weighed more heavily for sole proprietors or younger businesses that haven’t established business credit.
A higher credit score means more loan options, higher approval rates, and lower interest rates. A lower score means fewer options, lower approval rates, and higher interest rates. Small business owners should know their credit score and financial health before applying for a business loan. If you have poor credit, you should take steps to boost your credit score before applying.
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