Credit Score Explained
Summary
TLDRThis video from Practical Personal Finance educates viewers on credit scores, their history, and significance in lending decisions. It covers the FICO and Vantage scoring systems, explaining how they're derived from credit reports by Equifax, TransUnion, and Experian. The video outlines the factors influencing credit scores: payment history, amounts owed, credit history length, credit mix, and new credit inquiries. It concludes with a tip for boosting one's score by becoming an authorized user on a family member's credit card account.
Takeaways
- 😀 A credit score is a numerical representation that helps banks and lenders quickly assess the likelihood of you repaying borrowed money on time and in full.
- 🏦 Before credit scores, lending was based on personal relationships and reputation, which provided assurance to banks that borrowers would not default.
- 📊 Your credit score is derived from your credit history, which is a record of your repayment behavior on loans over the past 5 to 7 years, maintained by credit bureaus like Equifax, TransUnion, and Experian.
- 💯 The FICO and Vantage scores are two well-known types of credit scores, which are based on the same credit report information but may differ slightly due to varying analysis methods.
- 🚫 Having a credit score of zero isn't necessarily bad; it means you're not currently incurring debt. However, maintaining at least one account can facilitate future borrowing.
- 📈 A good credit score is generally considered to be above 650, with scores above 750 indicating excellent credit health.
- 💳 Payment history is the most significant factor in your credit score, accounting for about a third of the score, and reflects your timeliness in bill payments.
- 💳 Amounts owed is also crucial, representing about a third of your score, and considers the percentage of your loan paid off and credit card limit utilization.
- 🗓 The length of your credit history contributes to about 15% of your score, focusing on the age of your active accounts.
- 🔄 Credit mix and new credit inquiries each account for about 10% of your score, with a diverse credit portfolio and limited new credit applications being favorable.
- 🤫 A secret to boosting your credit score is to become an authorized user on a close friend or family member's credit card account, which can positively impact your credit mix, history, and utilization.
Q & A
What is the purpose of a credit score?
-A credit score is a numerical representation used by banks and other lenders to quickly assess the likelihood that a person will repay borrowed money on time and in full.
How has the process of lending money changed since the advent of credit scores?
-Before credit scores, lending was more difficult and relied heavily on personal relationships between bankers and clients. Credit scores have simplified the process by providing a standardized measure of creditworthiness.
What are the two most popular types of credit scores mentioned in the script?
-The two most popular types of credit scores mentioned are the FICO score and the VantageScore.
What are the three credit bureaus that maintain credit history?
-The three independent credit bureaus that maintain credit history are Equifax, TransUnion, and Experian.
What is the highest and lowest possible credit score?
-The highest credit score one can achieve is 850, and the lowest is 300. A score of zero indicates no active accounts and no debt.
What is the significance of maintaining at least one credit card account open?
-Maintaining at least one credit card account open helps to establish a credit history, which can make it easier to obtain loans in the future and maintain a good credit score.
What is the threshold for a 'good' credit score according to the script?
-A credit score above 650 is considered good, while a score above 750 indicates excellent credit.
What are the five factors that influence a credit score?
-The five factors influencing a credit score are payment history, amounts owed, length of credit history, credit mix, and new credit.
Why is payment history considered the most important factor in credit scoring?
-Payment history is the most important factor because it accounts for about a third of the credit score and reflects a person's track record of paying bills on time, which is crucial for lenders assessing the risk of lending.
How can becoming an authorized user on someone else's credit card account help improve one's own credit score?
-Becoming an authorized user can improve one's credit score by potentially increasing credit mix, length of credit history, and reducing credit card utilization percentage, provided the primary account holder has a good credit history.
Outlines
💼 Introduction to Credit Scores
This paragraph introduces the concept of credit scores and their importance in personal finance. It outlines the video's structure, which will cover the history of credit scores, different types of scores, what makes a good score, and factors influencing credit scores. The speaker uses an analogy of lending money to a friend versus a stranger to explain the role of credit scores in lending decisions. Credit scores have replaced personal relationships as the primary factor for banks to determine loan eligibility. The video promises to reveal a secret to achieving a high credit score with minimal effort by the end.
📊 Understanding Credit Scores and Their Types
The speaker explains that credit scores are numbers based on an individual's credit history, maintained by credit bureaus like Equifax, TransUnion, and Experian. These scores help banks assess the likelihood of repayment. The paragraph discusses the FICO and Vantage scores, which are popular types of credit scores that may vary slightly due to different analytical methods. The video mentions that the highest possible credit score is 850, and a score of zero indicates no active debt, which isn't necessarily bad but can make borrowing difficult. The speaker suggests maintaining at least one account to keep the credit score active.
💳 Factors Influencing Credit Scores
This section details the five key factors that affect credit scores: payment history, amounts owed, length of credit history, credit mix, and new credit. Payment history, accounting for about 33% of the score, is crucial as it reflects bill payment punctuality. Amounts owed, also significant, considers the percentage of long-term loans paid and credit card limit usage. Length of credit history, about 16% of the score, is based on the age of active accounts. Credit mix, around 10%, favors a variety of active accounts. Lastly, new credit, also 10%, is influenced by the frequency of credit inquiries. The paragraph concludes with a teaser for a secret to boost credit scores, encouraging viewers to watch till the end.
🔑 The Secret to Boosting Your Credit Score
The final paragraph reveals a secret to improving credit scores: becoming an authorized user on a close friend or family member's credit card account. This can positively impact the credit score by increasing credit mix, length of credit history, and reducing credit card utilization percentage. The speaker invites viewers to ask questions in the comments and encourages subscribing for more financial advice, thanking them for watching.
Mindmap
Keywords
💡Credit Score
💡Credit Bureaus
💡FICO Score
💡VantageScore
💡Payment History
💡Amounts Owed
💡Length of Credit History
💡Credit Mix
💡New Credit
💡Authorized User
Highlights
Introduction to credit scores and their significance in financial management.
Historical context of lending before the existence of credit scores, relying on personal relationships.
Explanation of how credit scores serve as a quick assessment tool for banks to gauge loan repayment likelihood.
Description of the role of credit bureaus like Equifax, TransUnion, and Experian in maintaining credit histories.
Differentiation between FICO and Vantage credit scores and their calculation methodologies.
Range of credit scores from 300 to 850 and the implications of having a score of zero.
Advantages of maintaining a credit score and the suggestion to keep at least one account open.
Definition of a 'good' credit score and the thresholds for different credit score categories.
Instruction on how to check credit scores for free and a link provided for further guidance.
Importance of the five factors influencing credit scores: payment history, amounts owed, length of history, credit mix, and new credit.
Emphasis on payment history as the most critical factor, accounting for about a third of the credit score.
Discussion on amounts owed and its impact, focusing on loan payments and credit card utilization.
Impact of the length of credit history on the credit score and the significance of account age.
Credit mix and how having a variety of active accounts can positively influence the credit score.
The effect of new credit inquiries on the credit score and the strategy to manage them.
Secret tip for boosting credit scores by becoming an authorized user on someone else's credit card account.
Encouragement for viewers to ask questions and engage with the content for further understanding.
Transcripts
this is just about everything you need
to know
about credit scores
[Music]
hello and welcome to practical personal
finance where you get the information
you need
to understand and succeed with money if
you're new to credit scores or just want
to enhance your knowledge
then you're in the right place this
video is going to be broken up into
three parts in part one i'm going to
teach you about what credit scores are
and what life was like before they
existed then in part two
i'll tell you about the different types
of credit scores and what constitutes a
good score finally in part three we'll
finish up with the five factors that
influence
your credit score and for those of you
who stick around until the very end
i'll let you in on a little secret that
will help you achieve a high credit
score
with very little effort in a short
amount of time
let's get started
think of a close friend of yours someone
you've known for a long time
10 years or more now let's say that
person called you up and said
hey i need some cash to get some repairs
done on my car
could you spot me 500 i'll pay you back
next month
when i get paid with some interest if
you knew this person well enough
you probably have a sense of whether
you'll get your money back next month
or if lending the money is a bad idea
but imagine if the person
asking you to borrow money and promising
to pay it back with interest
wasn't someone you knew personally but a
stranger in front of you in line at the
grocery store
this is the position banks are in when
we ask them to borrow money
and yet a lot of times they let us
borrow the money anyway
without even really getting to know us
what makes them do that you ask
your credit score your credit score is a
way for a bank
or other lender to quickly ascertain how
likely you are to pay them back on time
and in full before credit scores existed
lending and borrowing money was much
more difficult
and it was largely based on personal
relationships between
bankers and their clients banks needed
assurance that you weren't going to take
their money and skip
town never to be seen again and your
reputation provided a big
portion of that assurance but now your
credit score precedes your reputation
and your personal relationships and is
the primary factor used to determine
whether or not
you get a loan and on what terms
your credit score is a number assigned
to you
based on your credit history i.e your
record with other loans over the past
five to seven years this record is
maintained by
three independent credit bureaus equifax
transunion and experian if you have a
perfect record
you'll end up with a high credit score
and you'll find it very
easy to borrow money with favorable
terms but if your record is flawed
you'll end up with a low credit score
and you'll probably find it difficult to
borrow money at all
[Music]
two of the most popular and well-known
types of credit scores
are the fico score and the vantage score
these scores are all based on the same
information that's included in your
credit report
with those three credit bureaus but the
scores may be slightly different based
on how they analyze that information
and how much weight they assign certain
factors
it's kind of like if you gave two chefs
the same ingredients
and told them both to make you some
chicken parm
the resulting dishes are both going to
be chicken parm
but they'll be slightly different in
addition to that
the fico score and vantage score have
both been refined
and improved over time and you might run
into
older versions still being used this is
especially true when you're applying for
a mortgage
but again it's just like if you gave a
chef a set of ingredients on two
separate occasions
five years apart and asked for chicken
parm
both times over time the chef's cooking
technique
changed and improved you're going to get
chicken parm on both
occasions but chances are it'll be a
little different and better
the second time the highest credit score
you can get is
850. the lowest credit score you can get
is 300. if you have no active accounts
on your credit report
your score will be zero having a credit
score of zero
isn't necessarily bad it just means
you're not currently participating by
incurring
debt some people believe that's a good
thing i personally believe
it's not a bad idea to maintain your
score by keeping at least
one account open as long as it's not
costing you anything to do so
this will make your life a heck of a lot
easier when you want to take out a loan
for that reason among others i have a
couple of credit card accounts open that
i pay in full
every week or two and i think you should
do the same
everyone and their mother seems to have
a different definition for what is
considered a good credit score
i like to keep things simple so if you
ask me anything higher than
650 means you're doing a good job
anything higher than 750
means you're doing a great job and
anything under 650
means you can use some improvement if
you would like to check what your credit
score is for free
i made a video on how to do it and i'll
leave a link down below
if your credit score could use a little
pick me up stick around until the end of
this video
and i'll let you in on a little secret
that's sure to help
last but not least let's talk about the
five factors that
influence your credit score they are
your payment history
amounts owed length of history
credit mix and new credit let's break
these out
one by one so you can begin to
understand what each of these factors
are
and how much influence they have on your
credit score
factor number one is your payment
history this one is the single
most important factor and it's
responsible for about a third of your
credit score
in short your payment history is all
about whether or not you pay your bills
on time
this includes things like student loans
mortgage payments
car payments and credit card payments
the main thing lenders want to know is
that you're going to pay them back
if you pay your bills on time every
month your payment history will be
flawless
if you're late even once your credit
score is going to take a big hit
more than once you're in the toilet late
payments will stick around on your
credit report and
ding your credit score for up to seven
years
factor number two is your amounts owed
this is a close second for the most
important factor
and again it's responsible for about a
third of your credit score
with amounts owed we're primarily
looking at the percentage paid on your
long-term loans
and the percentage of your credit card
limit that you're using on a monthly
basis
for long-term debt like student loans or
car loans
a higher percentage of the total loan
paid indicates that you're a reliable
borrower
for example if you have a student loan
you've been working on for six years and
it's eighty percent paid off
that's good but if you just financed a
brand new bmw five series with
zero dollars down and haven't made a
single payment yet
that's bad both for your credit score
and your net worth
please don't go out and finance a 5
series with credit cards
you want to use only a small percentage
of your monthly limit
the smaller the better so for example
let's say you had a discover
card with a one thousand dollar limit if
the balance on your statement is one
hundred dollars
you're in good shape but if the balance
on your statement is eight hundred and
fifty dollars
your credit score is going to take a hit
factor number three is the length of
your credit history
this one is responsible for about 1 6 of
your credit score
plain and simple the length of your
credit history is all about the amount
of time you've had your different
accounts
active if you took out a student loan 12
years ago
that account is 12 years old even if you
didn't make a payment on it while you
were still in school
if you got a new credit card six years
ago and you've kept it active
that account is six years old your
credit score looks at the average age of
all your active accounts
once a student loan or other installment
loan is paid in full
it no longer counts toward the length of
your credit history
if it was an old account that you paid
off it will actually hurt your credit
score
it's almost like the system was designed
to keep you in debt for as long as
possible
go figure factor number four is your
credit
mix this one is responsible for about
one-tenth of your credit score
lenders like it when they can see you've
got a variety of different active
accounts
so it's good mainly for your credit
score when you have at least a couple of
long-term loans like a mortgage and some
student loan debt
and a couple of credit cards it shows
you're responsible and can manage
different types of debt simultaneously
factor number five is
new credit this last one is also
responsible for about one
tenth of your credit score when you
apply for a new credit card or a new
loan
that lender pulls a copy of your credit
report
this is called an inquiry inquiries are
bad
for your credit score an inquiry every
year or two
is alright and won't have too much of an
impact but any more than that
and banks start to worry that you're
opening too many accounts
too quickly in general an inquiry will
disappear from your credit report after
two years
hey you made it to the end of this video
congrats here's a little secret to help
you bump up your credit score
ask one of your close friends or family
members to add you
as an authorized user on one of their
credit card accounts
you don't want a separate credit card or
anything you just want your name
listed on the account becoming an
authorized user
can be a triple play for your credit
score if you choose which account to be
added to wisely
it can increase your credit mix and your
length of credit history
and it can reduce your credit card
utilization percentage
that's a win-win win got any questions
about credit scores
anything i missed let me know in the
comments if you want to know more about
what it takes to achieve a credit score
of
800 or higher click right here
and if you're not already a ppf
subscriber then what are you waiting for
click right here to join the fun as
always
thanks for watching i'm andrew scheer
and i'll see you
next time
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