The most important part of applying for new credit is a history of managing your prior and existing credit responsibly. Each of the major credit bureaus—Experian, TransUnion, and Equifax—compile a history of your accounts and calculate a credit score based on that information. Although you may have heard of the FICO score designed by the Fair Isaac Corporation, the individual bureaus also create their own scores. This means that the same information can produce different results.
It is more likely that the information will be different at each bureau from the start. Each lender or credit issuer can choose whom it asks for your credit history. If several of your applications result in credit pulls from Equifax, your credit report and score may look different than one from TransUnion. Each bureau also manages your details separately from the others, so if there is a blemish on your credit report that needs to be fixed, you need to follow up with each bureau to make sure it has accurate information.
The FICO score ranges from 300 to 850, and anything over 740 to 750 is usually considered excellent credit. Don’t feel bad if you are on the low end of excellent. Scores of 800 or higher are extremely rare. Even so, the median score is around 720, meaning half of all people have scores higher than 720.
Fair Issac doesn’t publish the exact formula, but here are some factors that influence your final score. Notice that recent credit inquiries are only a small part. Do they matter? Of course! But applying for credit by itself isn’t the worst thing you can do.
- 35% of your FICO score is payment history. Are your bills late or on time? Do you pay the balance, the minimum payment, or somewhere in between?
- 30% is credit utilization. Divide the amount of outstanding debt by the amount of authorized credit. Credit utilization is measured not only across all cards but also on each individual card. It is best to avoid utilizing more than 30-50% of your available credit even if you pay off your balances each month. This should not be a problem as you acquire more cards with higher limits.
- 15% is account age, averaged over all accounts. Find one or two cards with no annual fee and lock them away in a drawer. As the time comes for renewing cards with annual fees, ask for a retention bonus or fee waiver rather than canceling. Some cards may have a fee but automatically provide an annual benefit each year to make up for it (like a free hotel night or 5,000 bonus points).
- 10% is variety of credit. If, like me, all you have are credit cards, your score will be lower. I wouldn’t recommend opening loans because the interest will eliminate the benefit, but you should avoid closing accounts right before an application.
- 10% is recent inquiries. Credit inquiries are divided into soft pulls and hard pulls. A soft pull is the kind you get when you make your free request each year for your credit history, or when a service like Credit Karma and Credit Sesame updates your information. You aren’t asking for credit, you’re just checking it. This has no effect on your score and will not be recorded publicly. Hard pulls are recorded when you make a request for new credit. Each one can lower your score by single digits for a few months, but several at once can have a larger effect. These stay on your report for about two years. (Note: I receive a small commission if you sign up for Credit Karma or Credit Sesame using my links, but they’re good services I use often.)
As you can see, if you abuse the credit you are offered, it will come back to hurt you. But as long as you pay your bills, things like short account histories, weak credit variety, and frequent inquiries really are not an issue when managed properly because they make up relatively small portions of your credit score.
You can get a copy of your credit report from each bureau once a year for free by visiting www.annualcreditreport.com thanks to government regulation. This includes the information in the report, not the numerical credit score itself, but sometimes you can get the score for a small additional fee. Be aware that www.freecreditreport.com is a different program by Experian that does not provide a free report unless you subscribe to a credit-monitoring service.
You can also use free services that pull information from the major bureaus and estimate your actual credit score. I’m not really sure how these are any different from an actual score, but I find them useful. Credit Karma uses information from TransUnion, and Credit Sesame uses information from Experian. These sites will try to pitch some financial products in exchange for their help, but you don’t have to buy anything or provide your credit card number.
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Disclaimer: I am not a financial advisor. You should always complete your own due diligence and consult a qualified advisor before making financial decisions.