Credit Scores 101: A Beginner’s Guide

If you have a credit card, then you’re probably familiar with the words, “credit score”. If you don’t have a credit card yet but are thinking about getting one soon, buckle in because we’re breaking down everything you need to know about credit scores and why they matter.

Other than credit cards, you’ve probably heard of credit scores as part of the conversation about financial responsibility and applying for loans. This mysterious three-digit number can play a big role in the types of loans you qualify for to pay for some of your school-related expenses. If you don’t know where to start, we’ll be your guide to understand what they are, why they’re important, and how to check them.

What are credit scores?

A credit score is a three-digit number that lenders use to determine your creditworthiness (your reliability to pay back a loan on time). Your credit score is determined by several different factors, including:

• Payment History: The biggest factor in your credit score is whether you have paid your previous loans back on time.
• Amount of Debt: The outstanding debt you already have on your credit card and other loans plays another significant role in determining your credit score.
• Length of Credit History: The length of time you’ve had a relationship with lenders.
• Mix of Credit Types: Having a variety of credit types (loans, credit cards, etc.) looks better than only having several credit cards.
• New Credit: New credit inquiries can occur for a variety of reasons, such as buying a new car or applying for a new loan or credit card. New credit can represent new debt, sometimes resulting in an initial dip.

The most popular type of credit score is called the FICO® score. FICO is named after the creators of the score, the Fair Isaac Corporation. From lowest to highest, FICO scores range from 300 to 850. A score of 670-739 is considered ‘good,’ 740-799 is considered ‘very good’ and 800-850 is considered ‘exceptional.’ The average credit score for people between the ages of 18 and 24 is 630, according to Credit Karma.

There are many types of consumer reporting agencies that collect, analyze, and distribute information about people, such as their debt and work histories. When it comes to credit history, the big three national credit bureaus are Equifax, TransUnion, and Experian, all of which are recognized by the Federal Trade Commission (FTC) as official credit reporting companies. 

When you apply for a student loan or any other type of credit, the lender you are working with will request a credit report on you from one or more of these bureaus. It’s important to note that your credit score will not be consistent across each of the bureaus, and in some cases can differ by as much as 100 points. There are several reasons for this, including the information provided to the bureau, the recency of data examined, errors on your credit history, and the credit scoring model used.

Why are credit scores important?

Your credit score can impact many aspects of your financial wellness journey, including insurance premiums, interest on loans (including cosigned student loans or non cosigned student loans), credit card rewards, and even cable or phone prices and eligibility. 

Your score can even affect your ability to rent a living space, with many landlords giving preference to prospective renters with higher scores. Employers and prospective employers may also request your credit report, though they will see a modified version of your credit report without your 3-digital credit score.

Credit scores don’t just help determine your eligibility to receive a loan or line of credit, but they can also affect how much money stays in your wallet over time.

According to myFICO, someone with a “fair” credit score could pay nearly $70,000 more on a $200,000 home loan than someone with an “exceptional” one. This is because those with better scores usually receive better interest rates, which adds up over time. 

The same goes for other types of loans, including college loans. If you want to apply for a private undergraduate student loan, but have a poor credit score (or little to no credit history at all), some lenders may require a cosigner to qualify.

Even some students applying for graduate student loans may need cosigners if they do not meet the minimum credit score or income requirements.

As we can see, those three numbers can add up to a lot of money!

How do I check my credit score?

There are several ways to check your credit score, and the three main credit bureaus are required by law to provide you with a free credit report once a year. Though it is possible to contact the credit bureaus directly for your reports, the government-authorized website is AnnualCreditReport.com. Check to make sure you are on the correct site before submitting any personal information. 

Many banks and credit card companies will also provide your credit score for free, which can be used as a periodic check-up in between your annual credit reports.

There is also a variety of free credit score monitoring sites like Credit Karma, Experian, and Credit Sesame that provide access to free credit scores and reports, as well as other financial information and services. These third-party websites vary in data sources and terms & conditions, so make sure you thoroughly research any credit reporting site before signing up or sharing any personal information. 

Regardless of the source, your credit report should list the information that lenders have reported to credit bureaus, including your borrowing history and any delinquent (late payment) or defaulted loans. A default occurs when a borrower fails to pay back the loan according to a contract arrangement, often after missed payments.

Checking your credit report regularly can help ensure that there are no errors, which can significantly impact your score if gone unnoticed. Credit report errors can range from simple misreporting to your credit history being accidentally mixed with someone else’s. Just be sure the credit reports you’re requesting don’t impact your overall credit score. For example, if you apply for a loan and they need to pull a hard credit check, this can impact your credit score. 

If you find an error in your credit report, you need to quickly notify the credit reporting agency in writing using this sample dispute letter from the Federal Trade Commission.

Ways to Improve Your Score

There is more to improving your credit score than just lowering your debt. Here are some tips that can help improve your score over time:

• Make at least the minimum payment on each of your debts on time every month. Late and missed payments can hurt your credit score.
• Lower your debt. Learning how to budget and paying more than the minimum amount on your loans and credit cards (assuming there isn’t any prepayment penalty) may help this process.
• Don’t close accounts earlier than necessary—if at all. Usually, credit cards can stay open even if not used, further contributing to your creditworthiness (especially the oldest ones). Some credit cards carry annual fees, so check your terms to weigh the pros and cons.
• Having a variety of types of debts and credit approvals (loans, credit cards, and other financial accounts) can help build trust and creditworthiness with lenders. 
• Don’t open or try to open several new accounts in a short amount of time. Applying for credit repeatedly can make it look as though you’re in a desperate situation. 
• Look for lenders like Ascent that allow you to pre-qualify for a student loan before running a hard credit check. Pre-qualifying can provide you with a pretty good idea of your terms and interest rates without impacting your credit score.

FAQs About Credit Scores

What is a credit score?

A credit score is a three-digit number that helps lenders evaluate your creditworthiness. Factors included in calculating your credit score include how long you’ve been using credit, how good your payment history is, and the different types of credit you’ve used. A higher credit score can provide you with more access to borrow money, including better interest rates.

What’s a good credit score?

FICO scores range from 300 to 850, though each lender sets its own qualification standards. Typically, scores below 580 are considered “poor,” 580-669 is “fair,” 670-739 is “good,” 740-799 is “very good,” and 800-850 is “exceptional.” 

How often are credit scores updated?

Credit scores are updated whenever new information is sent to a reporting agency, usually once every month or month and a half. However, there is no hard and fast rule.

Why are my three credit scores different?

Your Experian, Equifax, and Transunion scores may differ because the credit bureaus have different information, information hasn’t reached them, or they weigh factors differently. Errors in the data reported from one credit bureau to another can also be a factor.

How are credit scores calculated?

Credit scores look at your length of credit history, types of credit, payment history, and amount of debt, then use those data points to help lenders evaluate how creditworthy you are. FICO has also started incorporating bank account information as another variable.

When should I start building credit?

There are benefits to building credit as early as possible. Some banks allow minors to be authorized users on their parents’ credit cards, for instance, which can help you begin to establish credit at an early age.

Why are credit cards so important for building credit?

Credit cards have limits based on your payment history, and how trusted you are to repay what you’ve borrowed. If you have a high credit limit and an on-time payment history, credit agencies are more likely to see you as a creditworthy borrower. This is especially true if your credit limit is significantly higher than what you owe. 

How does paying down my loans and credit cards affect my credit?

Paying down loan amounts and credit cards can slowly make your credit score go up, but the effects aren’t usually immediate. These changes usually need to be substantial before they improve your score. Try to make your payments at a reasonable pace or consider paying more than the minimum each month if you can afford it.

Additional Tips About Credit Scores and More

By understanding credit scores and why they matter, you’re well on your way to reaching financial independence. 

Visit our blog for the latest financial tips and tricks, or check your pre-qualified rates for free without impacting your credit score.