Credit is borrowing a certain amount of money with the intention of paying it back. The credit company will give you a limit for how much money you can spend. If you continue to show that you can be trusted, your limit will increase.
What is a Credit Score (FICO score) and why is it important?
A FICO score is the score that lenders check to help them decide if they will loan money to you if needed. The FICO score ranges from 300 – 850. The higher the FICO show, the more likely you are to be trusted with borrowed money. It consists of 5 categories: payment history, credit utilization, length of credit history, credit inquiries, and types of credit.
Breaking down what contributes to your FICO score:
- Payment History (35%): You have to make sure that you at least pay your minimum on time. The credit company decides your minimum and the due date that you need to pay it by. If you pay your bills on time, you are less risky to lenders.
- Credit Utilization (30%): the amount of credit you use compared to how much you have available. To keep your credit score up, you should be at about 30% of your credit utilization. For example, if you receive credit of $4000, you should only be spending around $1200. For the best score, you would want to keep it at 9%. That means if your credit is worth $4000, then you should be spending around $360. Pay off your card multiple times a month in order to knock out those payments faster.
- Length of Credit History (15%): This is based on how long you have had your credit card. Unfortunately, there is nothing you can do to improve this score. The younger, you get a credit card, the better because that will increase your length overtime.
- Credit Inquiries (10%):
- Hard Inquiries: This is when a lender simply checks your credit. This can hurt your FICO score up to 4-6 points. You usually only see the impact of this for a a couple weeks or a couple months.
- Soft Inquiries: They do not affect your FICO credit score. They are inquiries for when a lender looks at your credit history.
- Types of Credit (10%):
- Revolving Credit: Spending and paying it back, spending and paying it back (examples: personal line of credit, credit cards)
- Installments: loan with a fixed loan amount meaning your loan amount will not change (examples: student loans, mortgage, car)
- Open accounts: There is no interest on this type of credit (examples: utility bills, charge cards)
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