A good FICO credit score is considered to be in the range of 670 to 739, and there's no magic formula to getting your score to this level or beyond. With a good payment history, smart credit utilization, and using selectivity when applying for new credit, building a good credit score could be easier than you think.
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How the FICO score works and what a "good" FICO score is
There are several credit scoring models in use, but the FICO scoring model is by far the most popular and useful to consumers, as it's used in more than 90% of lending decisions.
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The actual formula that determines your FICO score is a well-guarded secret, but we do know that the FICO score is made up of five categories of information, which we'll discuss in more depth later.
- Payment history (35% of score)
- Amounts owed (30%)
- Length of credit history (15%)
- New credit (10%)
- Credit mix (10%)
FICO scores range from 300 to 850, with higher scores being better, and most consumers have FICO scores in the 500 to 800 range. According to a FICO publication on understanding your score, a good score is one in the range of 670-739.
Data source: www.myFICO.com.
The first step: Doing damage control
The first step toward building good credit is to identify any negative information on your credit report and taking steps to fix it.
Before you can do this, you'll need a copy of your credit report. There are many places online where you can get yours, but I suggest using www.annualcreditreport.com, where you can request a free copy of your credit report from all three credit bureaus once a year -- no strings attached.
Next, look over your report to get an idea of what you're dealing with and to check for errors. According to a study by the Federal Trade Commission, about one in five consumers have errors on their credit reports, so it's certainly worth examining yours closely. If you find an error, here's a link to an FTC article that can help you dispute it and get it corrected.
If you have legitimate collection accounts or other past-due debts, this is the information you want to deal with as soon as possible. Call your creditors and try to work out a reasonable payment arrangement -- you may be surprised at how much negotiating power you have. Paid collections will hurt your credit less than unpaid ones, and won't count against you at all in FICO's latest scoring model. And late payments will have less of a negative effect as they get further into the past.
Use the five FICO categories to maximize your score
Understanding how the FICO formula works is all the information you need to maximize your own credit score. Let's take a closer look at the five categories, and some smart behaviors you can use to make sure each one helps boost your score.
1. Payment history -- This is the most obvious, but also the most important category. The number one thing you can do to build your credit is to pay your bills on time every month. As your accounts get older and your payment history becomes more established, this part of your score gets stronger.
2. Amounts owed -- The best thing you can do to maximize this category is to keep your credit balances low relative to your overall credit limit, although a small balance seems to be better than no balance at all. Another way to maximize this category is to occasionally ask your credit card companies to raise your limit. Doing so will result in a lower balance as a percentage of your available credit, and can boost your score.
3. Length of credit history -- It's a good practice to keep your credit accounts open as long as possible, even if you don't use them much. As a personal example, I haven't used my oldest credit card regularly in more than five years, but I keep it open because it boosts the average age of my credit accounts.
4. New credit -- Only apply for new credit when you truly need it. One or two credit inquiries aren't likely to drop your score by more than a few points, but applying for a new credit card or loan 10 times in a year can easily take a major bite out of your score.
5. Mix of credit accounts -- I'm not advising you to take on new debts for the sole purpose of maximizing your credit score, but if there's a way to add diversity to your credit report, it's a good idea to do it. For example, if you don't have a credit card and don't really need one, it could still be a good idea to get a "no annual fee" credit card to improve your credit mix. Or, if you plan to buy your next vehicle in cash, it may be a good idea to get a car loan and pay it back in a short amount of time.
There's no "trick" to good credit
As you can probably see, these credit tips and behaviors are not especially creative tricks, and that's the point. The best path to good, or even excellent, credit is to understand how credit scoring works and use that information in your daily financial life.
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