What Is a Credit Score? How It Works and How to Improve It

What Is a Credit Score

A credit score is a three-digit number that summarizes your creditworthiness, or how likely you are to repay borrowed money. Lenders use this score to decide whether to approve you for loans, credit cards, mortgages, and even rental applications. The most commonly used scoring model is the FICO score, which ranges from 300 to 850. Higher scores indicate lower risk to lenders.

Credit scores are calculated based on information in your credit reports, which are maintained by the three major credit bureaus: Equifax, Experian, and TransUnion. Each bureau may have slightly different information, so your scores can vary slightly between them. A score above 700 is generally considered good, while above 750 is considered excellent. Scores below 600 are considered poor and will make borrowing difficult or expensive.

How It Is Calculated

FICO scores are calculated using five main factors. Payment history accounts for 35% of your score and is simply whether you pay your bills on time. Credit utilization accounts for 30% and measures how much of your available credit you are using. Length of credit history accounts for 15% and considers the age of your oldest account and average account age.

New credit accounts for 10% and includes how many new accounts you have opened recently and how many hard inquiries appear on your report. Credit mix accounts for 10% and considers the variety of credit types you have, such as credit cards, installment loans, and mortgages. Understanding these factors helps you focus your improvement efforts on the areas that matter most. The CFPB's credit score guide offers official explanations of how scores work.

Why It Matters

Your credit score affects many aspects of your financial life beyond loan approval. A higher score qualifies you for lower interest rates, which can save tens of thousands of dollars on a mortgage or auto loan. Landlords check credit scores when approving rental applications. Insurance companies may use credit-based scores to set premiums. Utility companies may require deposits from applicants with low scores.

Employers in some states may check credit reports as part of the hiring process for certain positions. Cell phone carriers and internet providers check credit before approving service. A low credit score can make it harder to rent an apartment, get a job, start a business, or secure financing. Improving your credit score is one of the most impactful financial steps you can take. For more on managing finances, see our budgeting guide.

Checking Your Score

You are entitled to one free credit report from each of the three major bureaus every 12 months through AnnualCreditReport.com. These reports do not include your credit score but provide the detailed information used to calculate it. Many credit card issuers now offer free FICO or VantageScore access to cardholders. Services like Credit Karma and Credit Sesame offer free scores and monitoring.

Review your credit reports carefully for errors, which are surprisingly common. Dispute any inaccuracies with the credit bureau directly. Common errors include accounts that do not belong to you, incorrect payment statuses, outdated negative information, and mixed files. Fixing errors can boost your score significantly. Check your credit at least annually and before any major loan application.

Improving Payment History

Payment history is the most important factor in your credit score, accounting for 35% of the total. Paying all your bills on time consistently is the single most effective way to build and maintain good credit. Set up automatic payments for at least the minimum amount due on all accounts. Use calendar reminders for bills that cannot be automated.

If you have missed payments, bring them current as soon as possible and stay current going forward. Late payments remain on your credit report for seven years, but their impact diminishes over time as you build a pattern of on-time payments. If you are struggling to pay bills, contact your creditors to discuss hardship options. Most lenders prefer to work with you rather than send your account to collections.

Credit Utilization

Credit utilization measures how much of your available credit you are using. It is calculated by dividing your total credit card balances by your total credit limits. A utilization rate below 30% is recommended, and below 10% is ideal for maximizing your score. For example, if you have $10,000 in total credit limits, keep your total balances below $3,000.

Utilization is calculated both per card and overall. Even if your overall utilization is low, maxing out a single card can hurt your score. You can lower utilization by paying down balances, requesting credit limit increases, or opening new accounts (which increases your total available credit). Unlike late payments, utilization has no memory: you can improve this factor quickly by paying down balances.

Length of Credit History

The length of your credit history accounts for 15% of your FICO score. It considers the age of your oldest account, the age of your newest account, and the average age of all your accounts. Longer credit histories are generally better because they provide more data about your borrowing behavior.

Keep your oldest credit card accounts open, even if you do not use them regularly. Closing old accounts reduces your average account age and can lower your score. If you have no credit history, you can start building it with a secured credit card or by becoming an authorized user on a trusted person's account. Over time, your score will naturally improve as your credit history lengthens.

New Credit Inquiries

When you apply for credit, the lender performs a hard inquiry on your credit report, which can lower your score by a few points. Multiple hard inquiries in a short period suggest you are desperate for credit and can significantly lower your score. However, rate shopping for mortgages, auto loans, or student loans is treated as a single inquiry if done within a 14-45 day window.

Soft inquiries, such as checking your own credit or pre-approved offers, do not affect your score. Limit hard inquiries to only when you genuinely need credit. Do not open multiple credit accounts in a short period. Each new account also lowers your average account age, creating a double hit to your score that recovers over time.

Credit Mix

Credit mix accounts for 10% of your FICO score and considers the variety of credit types on your report. A healthy mix includes both revolving credit (credit cards) and installment loans (auto loans, mortgages, student loans, personal loans). Lenders want to see that you can manage different types of credit responsibly.

Do not take out loans you do not need just to improve your credit mix. The impact of credit mix is relatively small, and the interest cost of unnecessary loans far outweighs any score benefit. If you already have a mortgage or auto loan, your mix is likely sufficient. For most people, focusing on payment history and utilization provides the fastest score improvement.

Building Credit from Scratch

If you have no credit history, you have a thin credit file rather than a bad one. Start building credit by opening a secured credit card, which requires a cash deposit that becomes your credit limit. Use the card for small purchases and pay the balance in full each month. After 6-12 months of responsible use, you will likely qualify for an unsecured card.

Becoming an authorized user on a family member's credit card with good history can jump-start your credit. Credit builder loans from credit unions are designed specifically to help people build credit. If you pay rent, services like Experian Boost and eCredable Lift can add positive rent and utility payments to your credit report. With consistent responsible use, you can achieve a good credit score within 1-2 years. For more financial tips, explore our Personal Finance hub.