Debt & Credit, Part 2 – What is a credit score, REALLY?

by | Sep 6, 2022 | Financial Skills

As I said in the previous post, I had an 803 credit score before my divorce. After that life-changing event, I had to sell my house on a short sale and file for bankruptcy. My score dropped to 430. Ugh! NO ONE would give me a loan. (Probably a saving grace for me.) But how is a credit score determined? A credit score can range, for the most part, from 300 to 850. The two main scoring models look at several things to determine a person’s likelihood of not missing a payment. The factors breakdown as follows;

  • Payment history – 35% and the most influential.
    • This includes on-time payments, late payments over 30 days, and public records such as bankruptcy, short selling a home, or a home foreclosure.
  • The amount of money owed – 30% and highly influential.
    • This category includes your credit utilization ratio. This compares your debt balances with the credit limits on any revolving credit accounts – think credit card.
    • It includes the amount owed on loans and how many of your accounts have balances.
  • Length of credit history – 15% and moderately influential.
    • The longer you have credit accounts open is more favorable to a higher score.
  • New credit accounts – 10% and less influential.
    • A hard inquiry (someone checking your credit history to determine if you are a good lending risk) can lower your score.
    • Opening new accounts can lower your score as you have more available credit.
  • Types of credit accounts – 10% and less influential.
    • Having different types of loans can help your score. Different types include revolving credit (credit cards) and installment loans (mortgages, car loans, etc.).

All good information. But it still needs to answer the heart of the question; What is a credit score, really? A credit score can be thought of as an I love debt score. The only way you can have a credit score is by going into debt. But the GOOD NEWS is you CAN live without debt and a credit score. This includes a mortgage. Some lenders will use a manual underwriting process to determine their lending risk to you. Here are four tips;

  1. Live below your means
  2. Create and follow a monthly budget
  3. Get and stay out of debt.
  4. Save up some money for emergencies