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Credit scores are different every time you look. Here's why!

How are Credit Scores Calculated?

Credit scores are calculated each time you pull your credit, based on which model the creditor is using.

Also known by the company that invented the model Fair Isaac (FICO), many different versions of it’s model are used to assist lenders when offering credit.

The actual formula for calculating a FICO score is proprietary, but there are some general guidelines and rules that we know about how to improve, and what will hurt, you credit score.

Fair Isaac’s scores are relied upon by investment markets and banks are based on comparing millions of credit reports with past history to predict repayment risk to a new creditor.

Ask a Credit Expert

Sam Parker from MyCreditGuy.com is someone that I personally know and completely trust.  Sam specializes in helping mortgage borrowers get quick credit restoration results to either buy a new home, or refinance your current mortgage.

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Sam and I dig deep into how credit scores are calculated in this 20 minute interview.

Credit Score “Snapshot”

Your credit score is generated at the precise time the creditor or lender requests the credit report.  This means that your credit score can change depending on what day of the month your credit is pulled.

Credit scores are a fluid as the underlying data.  If you have 3 credit cards from different companies, they may not “report” your last received payment on the same date.

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Credit Categories that Impact Score

Only the information that is reported to the credit bureaus is used to determine your credit score.  If a creditor does not report to the bureau, it will not impact the score.

This percentage chart simplifies the relative importance of each category to the FICO score

Credit Categories

35% – Payment History is the most important factor in determining your credit score.  On-time payments are expected.  Late payments, collections, bankruptcies or tax liens will have the biggest negative impact on your score.

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30% – Amounts Owed is the second most important factor in determining your credit score.  This is also greatest opportunity for making quick improvements to your credit score.

Credit card balances above 30% of the high credit limit will have a significant negative impact on your score.  Paying these balances down or off will give you an immediate boost in borderline scores.

15% – Length of Credit History plays a smaller but still significant role in your credit score.  The longer your history, especially with a particular credit line, like a credit card, the better this weighs in on your positive rating.

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10% – New Credit will most commonly show an increase in risk as it extends your ability to go into debt.  If you recently add a credit card with a $5,000 credit limit, this shows a new creditor that you do not have that money saved, and you needed to borrow that money to meet financial needs.

A new creditor has to assume that you will borrow the full amount at any time, reducing the money available to pay new expenses.

10% – Types of Credit Used also plays a minor, but important role in calculating your credit score.  Inquiries and applications for new credit are calculated as the potential to increase risk and may result in temporarily reduced scores.

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Installment vs Revolving Debt

Installment debt such as student loans, auto loans and mortgage loans primarily impact the payment history reporting part of your credit score.  Amounts owed is set at a fixed amount and does not have the ability to increase, causing the payments to fluctuate.

Including a mortgage in bankruptcy will often result in the lender ceasing to report the payments to the credit bureaus.  A common misunderstanding is that this hurts your credit, which is not true.  Your credit score is only being impacted by the bankruptcy, and will recover over time.

Revolving Debt has a far greater impact on your credit score.  At any time, you have the ability to max out credit cards to high credit limits, incurring higher monthly liability and causing a higher risk of late payments or default.

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A sudden increase in credit card charges is usually a sign that a borrower does not have money saved for emergencies or necessary purchases and, if not paid off or down (to under 30% high credit limit) within the next billing period, can negatively impact your credit score.

Best Practices for Building Good Credit

Most “bad credit” that I see as a mortgage lender comes from folks not knowing how to build good credit.

Improving your credit scores is not that difficult – here are a few best practices I’ve used over the years:

  • Have at least 3 revolving (credit cards) credit lines in good standing.
  • Use all 3 cards at least once, paying them down to a $0.00 (zero) balance on the first billing cycle.
  • Use only 1 of the above mentioned cards for convenience –  leave the other two at home in a drawer or somewhere safe.
  • Pay off balance every month.  Not only does this allow you to avoid interest charges, keeping your balance low builds good credit.

Following simple rules will put you a position to use your good credit scores for important purchases like a new home!

Working with a Mortgage Expert

Choosing the best mortgage based on your qualifications requires that you work with a professional loan officer that has experience with all of the options that are available to you.

All mortgage companies are NOT created equal.  Big box lenders that advertise on TV, radio and the internet, often only target a very narrow qualifying criteria.

These popular lenders spend millions of dollars on marketing and advertising, only to dump you into a call center and put you in the hands of an inexperienced customer service telemarketer.

Big box lenders try to convince unsuspecting consumers that it’s the lender that matters, and never mention the fact that your loan officer is the gateway to you getting the best mortgage.

You should avoid these types of lenders at all costs if possible.  They do not offer lower rates or better service, but they do have more money to convince you that they do.

Set Yourself Up for Success

Not sure where to find a professional loan officer that you can trust?  You’re in the right place!

If you have any questions or comments about this topic, feel free to leave a comment below, or you can shoot me an email at questions@findmywayhome.com.

Now sure how to identify a professional loan officer?  Watch these expert interviews I’ve done with professional loan officer friends of mine.

I firmly believe that once you hear how a professional loan officer communicates, it will help you to avoid silly mistakes and errors that are common with inexperienced or uneducated loan officers.

About the Author

Scott Schang

A 20 year veteran of the Mortgage and Real Estate industry, I am passionate about educating and empowering consumers. I have been writing about consumer protection issues, and making sense of complicated real estate and mortgage topics on this website since 2007

Leave a Question or Comment About this Topic

  • Christine Wilton says:

    This is Great information Scott!  Many folks facing bankruptcy don’t understand the impact to their credit score is likely to be positive after we eliminate their debt obligations.