8 min read Updated: October 15, 2023 Originally published: December 15, 2021.
Understanding the factors that influence your credit score can help you take steps to improve it over time. Here’s what you need to know about how your credit score is calculated.
This article contains general information and is not intended to provide information specific to American Express products and services. The same products and services offered by different companies will have different features, so you should always read the product details before purchasing any financial product.
Your FICO ® credit score is a score created by the Fair Issac Corporation (FICO). It’s calculated using your payment history, amount owed, length of credit history, new credit, and your credit mix. Your FICO ® credit score is a score created by the Fair Issac Corporation (FICO). It’s calculated using your payment history, amount owed, length of credit history, new credit, and your credit mix.
Lenders may report your loan repayment behavior to the three national credit bureaus to create a credit report.
A credit scoring algorithm uses the information in your credit report to calculate your credit score.
FICO credit scores, which typically range from 300 to 850, are designed to help lenders understand your credit profile. In other words, how risky it is to borrow money from you? This prediction is calculated by analyzing your past credit management. Understanding how your credit score is determined can help you take steps to build good credit. With a better score, you’re more likely to get better terms on loans and other types of lending.
While this article won’t delve into the actual math behind the credit score calculation algorithm, we will show you how credit score data is collected, the main components of the algorithm, and how your credit management behaviors affect the model and ultimately calculate your credit score.
What information does a credit report contain?
A credit report is a complete history of your credit-related activities and financial history. In addition to personal information such as your name, address, date of birth and Social Security number, a credit report lists all of your credit accounts along with your payment history, credit limits and balances. A credit report also lists creditors who have recently accessed your credit information.
Did you know that as an added security measure to prevent fraud, American Express reports reference numbers – not your actual account number – to credit bureaus?
What is the credit score based on?
The most commonly used credit scoring models used for most credit decisions are FICO and VantageScore ® , a collaboration between the three credit bureaus. Both companies use proprietary algorithms that produce results ranging from 300 to 850. The average FICO credit score in 2021 is 716.
- Payment history.
- The credit limit used.
- Length of credit history.
- Credit portfolio.
- New sources of credit.
The pie chart below shows how much these factors affect your FICO credit score .
Payment history accounts for 35% and is the largest factor because it indicates how well you have managed your credit in the past. The types of accounts considered in payment history include credit cards, auto loans, retail store credit, student loans, personal loans, mortgages, and home equity lines of credit. If you have any late payments, foreclosures, or accounts referred to collection agencies, these can negatively impact your credit score. Late payments, payments that are more than 30 days past due, and missed payments can remain on your credit report for seven years. Because payment history plays a big role in credit score calculations, paying the minimum amount on time for each credit card or other debt can help improve your credit score.
The ratio of the amount you owe to your credit limit is your payment history, rounded to the nearest 30%. To understand how this calculation works, consider this: If you have a $5,000 credit limit on one credit card and a $7,000 credit limit on a second card, your total available credit is $12,000. If you currently owe $500 on your first card and $300 on your second, your total utilization ratio is $800, meaning you’re only using 6.6% of your available credit. A general rule of thumb is to avoid using more than 30% of your credit limit. This means that closing a credit card you don’t use will lower your credit score because your overall credit limit will be lowered.
Length of credit history makes up 15% of your credit report and measures just how long you have had credit history. The age of your oldest active account is especially important. This means that even if old credit card accounts aren’t used, keeping them open can have a positive impact on your credit score.
New Loans and Loan Portfolios
New loans and combined credit are both weighted at 10%. However, these factors cannot be ignored as they can impact your credit score. New credit is a measure of the number of new accounts you have opened recently. While new accounts increase your credit, opening too many new accounts in a short period of time can raise red flags with lenders.
In some cases, even searching for new sources of credit can negatively impact your credit score. When a lender or creditor checks your credit report before approving a new loan or other financial product, it’s called a hard credit inquiry – and it can negatively impact your credit score. However, if you’re considering applying for a new auto loan or mortgage with a different lender, all inquiries within 14 to 45 days are considered a hard inquiry. Soft inquiries (inquiries made by you or a lender or creditor) don’t count toward credit score calculations. Some credit card issuers run a soft inquiry to check your eligibility before a hard check, but a hard inquiry is done after you’ve accepted a credit card.
Your credit mix refers to the types of credit and financial products you have. Having multiple payday loans, such as auto loans and credit cards, indicates that you can manage a variety of repayment activities. Payday loans require fixed monthly payments, while credit card repayments are more flexible in terms of how much you can pay each month.
What Doesn’t a Credit Score Measure?
Factors not considered in credit score calculations include your income, years of employment, and how long you’ve lived in your home. However, some lenders may consider these factors separately to determine your creditworthiness.
Industry-specific scores are tailored to the type of loan being applied for.
Depending on the type of loan, the lender or lender may use an industry-specific FICO score designed for that type of loan. For example, lenders often use the FICO automated scoring algorithm when deciding on auto loans, while credit card companies make decisions based on the FICO bank card scoring algorithm. These industry-based calculations give more weight to your success with similar loans and produce a wider range of results than the basic FICO score—from 250 to 900.3
Both FICO and VantageScore credit score calculations are updated periodically to reflect changes in credit reporting and average personal financial practices.
Questions about how credit scores are calculated
What role does payment history play in credit score calculations?
In credit score calculations, your payment history affects your score because it shows how much you’ve paid on your credit accounts (loans, credit cards, other debts) and helps lenders and creditors assess your creditworthiness and borrowing capacity. Manage your credit responsibly.
What are the five most important factors in calculating my credit score?
Credit score calculations can vary slightly depending on the credit scoring model used, but the most commonly used model is FICO. The five most important factors used in this scoring model are: payment history (35%), amount borrowed (30%), length of credit history (15%), new credit (10%), and credit mix (10%).
How does my credit score affect my credit score?
Having a diverse credit portfolio can have a positive impact on your credit score, but the effect is usually minimal compared to factors like payment history and debt. When you manage your portfolio of different credit accounts responsibly, lenders can view this as a sign of creditworthiness and financial stability.
FICO credit scores are calculated based on five credit characteristics: payment history, amount owed, length of credit history, new credit, and your credit mix. To take steps to improve your credit score, it’s best to pay off credit cards and loans on time, use credit wisely, and open old accounts when appropriate.
Julie Anderson is a freelance writer with extensive experience writing and teaching in the technology field.
All CreditIntel content is written by freelance writers and commissioned and paid for by American Express.
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