Your credit score is one of the most important numbers of your financial life. This three-digit number can be the difference between getting the loan you need to buy a new home or car, or even qualify for a credit card with a good interest rate. While credit scores play a strong role in our financial life, they’re also a bit misunderstood. Here’s a quick guide to understanding credit scores.
What is a credit score?
Your credit score is the number rating used by banks to determine how likely you are to repay a loan. Each credit bureau has their own way of calculating credit scores, but typically your score is based on the following factors:
- Payment history
- Age of credit
- Credit card utilization (the amount of credit available and how much you’re using)
- Types of credit (i.e. credit cards, auto, student, personal or mortgage loans, etc.)
- Hard credit inquiries (credit checks requested by lenders when you apply for credit/loan)
After reviewing your credit history, a three-digit number between 300 and 850 will be assigned. The higher the score on this scale, the better your credit is. It’s common to have a slightly different score at the same time. Each credit bureau uses their own calculation model to determine your credit score, and sometimes lenders don’t report to all three credit bureaus.
What’s a ‘good’ credit score?
Your credit score will fall into one of four categories: Very Poor, Fair, Good, Very Good or Excellent. Here’s the range for scores lenders use (this range is typically for VantageScore, which is used by the 3 major credit bureaus):
- Very Poor: any credit score under 549
- Fair: credit score between 550 and 649
- Good: credit score between 650 and 749
- Very Good: credit score between 750 and 749
- Excellent: any credit score 750 and above
How credit scores affect homebuying
Your credit score is the key to buying a new home. When you apply for a mortgage, your lender will review your credit report to determine whether or not to approve you for a loan, but also how much you’ll qualify to borrow, your mortgage rate, the type of loan you can get, and, in some cases, how much private mortgage insurance you’ll pay.
There’s no minimum credit score needed to apply for most loans, there are some mortgage providers, like FHA, have general guidelines for people with lower credit scores.
Not only that, but your credit score also affects your interest rate. Most lenders will provide more favorable interest rates to people with higher credit scores, which can save you thousands of dollars over the life of your mortgage!
Checking your credit score
Not only should you check your credit score before you begin the mortgage process, you should regularly review your credit report to make sure the information is accurate and to check your progress if you’re working to improve your score. Don’t worry: checking your credit report won’t affect your credit score! You can request a free credit report each year or use one a service like CreditKarma.com to check your credit score.