How Credit Works

How are credit scores calculated?

By Donna Freedman
Reviewed by Lauren Bringle, AFC®

Your credit score has an enormous impact on your life and, ultimately, on your financial security. A credit score is a three-digit number based on the information from your credit report, and gives lenders an idea of whether you’re a good credit risk.

While you may have heard people talk about “poor” or “good” credit scores, those aren’t the only two spots on the credit score scale. It might be termed anything from “very poor” to “exceptional,” depending on the source of the score.

Yes: You have multiple credit scores.

The best-known is the FICO® score (which comes in several different forms), but there’s also the VantageScore. Both companies create and continually refine “credit scoring models,” or mathematical formulas that predict how likely you are to pay what you owe.

In addition, the three credit reporting bureaus (Equifax, Experian and TransUnion) use FICO’s scoring model to calculate their own FICO scores. Other credit scoring models exist as well.

Sound confusing? It can be.

Credit scoring is a very complex subject, so we’ve broken down the basics.

In this article

How are FICO scores calculated?

A company called the Fair Isaac Corporation created the FICO credit score in 1989. It’s the most widely used credit score in the United States.

The latest version, FICO 9, is “bureau-specific.” It uses the information from the three credit bureaus to create three slightly different numbers. The scores are different because not every creditor reports to all three bureaus, so they’re operating with slightly different information.

The FICO score comes in a “base” model, for general lending inquiries, and also in FICO Bankcard (for credit card issuers) and FICO Auto (for car loans).

In order to be scoreable by FICO, you must have a credit account (also known as a “tradeline”) that’s at least six months old and that has had activity during that time.

Such tradelines include installment loans (including home, auto, student, personal or credit-building loans) and revolving credit (such as credit cards or a home equity line of credit).

The FICO credit scoring model focuses on five categories:

  1. Payment history. This makes up 35% of your score, so a missed payment can really hurt your score. Timely payments are a huge factor in building a good credit score.
  2. Credit utilization. This category makes up 30% of a FICO score, so try to use no more than 30% of your credit at any time; ideally, you’d use 10% or less.
  3. Length of credit history. This means how long you’ve had credit accounts (the longer, the better) and how recently you utilized this credit. This category makes up 15% of your FICO score.
  4. Credit mix. Auto loan, credit cards, mortgage, HELOC, personal loan, student loan, another kind of installment loan – a wider range could help build a better score. It’s worth 10% of your score.
  5. Recent activity. Opening too many kinds of credit in a relatively short period of time could indicate you’re taking on more debt that you can reasonably repay. This makes up 10% of your score.
The FICO base score ranges from 300 to 850, while the FICO Bankcard and FICO Auto scores range from 250 to 900.

How are VantageScores calculated?

VantageScore was created in 2006 by the three credit reporting bureaus. Lenders use both FICO and VantageScore when making loan decisions, though the most popular is still the FICO score.

The two scoring models are fairly similar.

Here’s how VantageScore ranks the factors that influence its scores:

  • Credit usage, balance and available credit: How much you have, how much you use and what’s left.
  • Credit mix and experience: The kinds of credit you have and the age of those accounts.
  • Payment history: Whether you pay your bills on time.
  • Age of credit history: VantageScore emphasizes this less than FICO, but it still matters.
  • New accounts: Includes how recently they were started and also how many hard credit inquiries you have.
The VantageScore range started out as 501 to 990. Now it’s 300 to 850, the same as the FICO base score.

A big difference between the two scoring models is that with VantageScore you can be scoreable even if you’ve had credit for only a few months. By contrast, with FICO your accounts need to be at least six months old.

Another difference is that VantageScore considers the last 24 months of your credit report more significant than FICO does. That’s a plus for those who are just starting out, or who have had to rebuild their credit.

How do lenders calculate your credit score?

Your credit score has an enormous impact on loan interest rates, and often determines whether you get the loan at all. After all, it represents the chances that you'll pay back what you owe.

Whether a creditor is a mortgage lender, a credit card company, or other financial institution, they want to know a borrower will pay their accounts as agreed.

While a higher credit score is a good indicator to creditors, a good credit score doesn’t guarantee you’ll get a loan.

Lenders look at all the information on the credit report, such as your payment history or recent activity in your report. They may also look at information that’s not on the credit report, such as your current income or any civil judgments against you.

It’s also possible that a lender will take your personal story into consideration.

For example:

Suppose you ran up your credit cards during a long illness, damaging your score. Some lenders might be willing to give you the loan anyway if you can explain why you spent so much, according to mortgage broker Casey Fleming.

“We can turn a decline into an approval with the proper documentation of that circumstance,” says Fleming, of C2 Financial Corp. in San Diego.

However, the lower credit score would mean you’d pay higher interest rates and also higher mortgage insurance interest rates.

How do auto loan lenders calculate your credit score?

The credit scores most often used by auto loan lenders are FICO Score 8 or 9, FICO Auto, and VantageScore 3.0 and 4.0, according to Experian.

According to the Consumer Financial Protection Bureau, in addition to the credit score, a potential lender will also take into account your:

  • Credit history
  • Income
  • Current debt load
  • Down payment (if any)
  • The type of vehicle
  • The length of the loan
  • The total amount financed
Lenders may offer loans to people with credit scores as low as 500; at least one company, Carvana, specifies no minimum loan requirement.

However, the interest rates will likely be much higher than they would for someone with a better score. Rates as high as 29.95% are currently offered to people with scores under 600.

How are credit scores calculated for home loans?

Typically, a mortgage lender will look at your credit score from all three credit bureaus, according to FICO. However, they use a different version from each bureau:

  • FICO Score 2 from Experian
  • FICO Score 4 from TransUnion
  • FICO Score 5 from Equifax
For mortgage loans bought or secured by Fannie Mae, these versions of the FICO score are required:

  • Equifax Beacon 5.0
  • Experian/Fair Isaac Risk Model V2SM
  • TransUnion FICO Risk Score, Classic 04
Freddie Mac requires these versions:

  • Equifax FICO Classic v5
  • Experian/Fair Isaac Risk Model v2
  • TransUnion FICO Risk Score 04
While lenders look at all three scores, they use only one: the middle score.

If your scores come in at 699, 704 and 712, the lender focuses on 704. And if you’re applying with another person whose middle score was 701, then that’s the number the lender uses.

Generally speaking, a score over 760 will get you the best rates.

“A lender knows if someone has a 760 FICO score, that person is a good lending risk,” says mortgage broker Steve Foster, of Vista Financial Advisors in Pasadena.

Anything below 650 is considered poor or “sub-prime.” However, you might qualify for a government-backed FHA loan with a score as low as 580.

Conventional loans start at a 620 credit score, according to mortgage banker Wendy Thompson. Again, these might not be your best bet because they carry higher interest rates and also higher private mortgage insurance interest rates.

“While you can get a conventional loan with a 620, you’re not going to want to,” says Thompson, of Memphis-based Good News Lending.

How do credit monitoring sites calculate your credit score?

A credit monitoring site keeps an eye on your credit and provides access to your credit score. Depending on the company, you might also get services like credit score updates, identity theft insurance or alerts if your Social Security number gets used.

Here’s where some of these sites get their information:

  • Self: VantageScore 3.0, from Experian
  • Credit Karma: VantageScore 3.0, from Equifax and TransUnion
  • Credit Sesame: VantageScore 3.0, from TransUnion
  • CreditWise: VantageScore 3.0, from TransUnion
Since the services are going through credit bureaus, the information is accurate. These are not FICO scores, but that doesn’t matter.

Don’t focus on the number, focus on the credit score range

According to Rod Griffin of Experian, the scoring models are similar enough that if you have a good VantageScore, you’ll have a good FICO score. Rather than focus on the numbers, he says, consider the credit scoring range they’re in, such as “good” or “very good.”

“Don’t try to compare one score to another. They’ll rarely match,” says Griffin, senior director of consumer education for Experian.

A free credit score service should provide any “risk factors” that keep a credit score low, he says. For example, the service might point out that you’re using too much of your available credit or that you’ve recently missed a payment.

“Getting those factors is empowering. You’ll know what you need to work on,” Griffin says.

How does my credit score compare?

Comparing your score to a relative’s or friend’s could be an exercise in frustration.

For example:

Your score might be lower than your aunt’s because she’s been using credit for three decades and you just got a card last year. Or you might have a higher score than your BFF because you have a good mix of credit: student loans, a car note and a credit card.

Don’t compare apples to oranges, but do keep the following things in mind.

What is considered a good credit score?

That depends on who’s asking, since it can vary from one lender to the next. Generally speaking, a FICO score of 670 or higher or a VantageScore of 700 or higher are considered good credit.

Here’s how the two main credit-scoring models break it down:

FICO

Poor: 580 or less
Fair: 580 to 669
Good: 670 to 739
Very good: 740 to 799
Exceptional: 800 and up

VantageScore

Very poor: 300 to 499
Poor: 500 to 600
Fair: 601 to 660
Good: 661 to 780
Excellent: 781 to 950

Credit scores change throughout a consumer’s life, generally for the better.

A March 2020 study by Experian analyzed FICO score changes throughout the average consumer’s life. It created an age range using data from the second quarter of 2019.

  • Age 20 to 29: 660
  • Age 30 to 39: 672
  • Age 40 to 49: 683
  • Age 50 to 59: 703
  • Age 60 to 69: 733
  • Age 70 to 79: 754
  • Age 80 to 89: 757
  • Age 90 and up: 753
Note that the 60-to-69 age range is the first time that the average credit score reaches the “very good” FICO score category.

As you can see, your credit score is a lifelong work in progress.

What is a bad credit score?

Although friends might moan over how “bad” their credit scores are, neither FICO nor VantageScore uses that designation.

For FICO, a “poor” credit score is 580 or less.

For VantageScore, a “very poor” score is 300 to 499 and a “poor” score is 500 to 600.

A poor credit score – or even a “fair” one – can have a major impact on your life. It makes getting a loan harder, and interest rates higher.

Most credit card issuers require a score of 670 or more; while it might be possible to get a secured card or a subprime credit card, these may have higher interest rates, lower credit limits and fewer perks.

In all but three states, your credit score can affect your auto insurance rate, and whether or not you can rent an apartment or get a loan.

Potential employers may ask to see your credit report; while they won’t get a look at your actual score, they will see any issues that are keeping it low, such as late payments or high debt levels -- which could lead them to second-guess hiring you.

In short, working to improve your credit score can improve your life.

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What is the average credit score?

The average FICO score for U.S. residents in 2020 is 703. [25] That’s three points lower than the 2019 average score. But it’s 17 points higher than the 686 average from 2009, during the Great Recession.

How do you keep track of your personal credit score?

You’re entitled to one free copy of your credit report per year from each of the three credit bureaus. By getting one copy every four months, you can watch for errors and any other issues that can affect your credit score. To get these free copies, visit AnnualCreditReport.com or call 1-877-322-8228.

(Note: Due to the COVID-19 pandemic, you can request a free weekly credit report through April 21, 2021.)

Some credit card issuers and banks provide free credit scores every month as a service to customers. Another way to track your score is to sign up for a service like Self, which provides a VantageScore to Credit Builder Account holders.

Monitoring your credit score is an important step toward improving it.

By keeping an eye out for mistakes and signs of identity theft, you can prevent the score from being dragged down even temporarily by reporting errors or fraud.

In addition, you should work to improve the score through tactics such as paying bills on time, not overusing available credit, and developing a good credit mix without opening too many accounts.

A savvy consumer will use today’s credit scoring models to build a stronger and healthier financial tomorrow.

Need to build your credit? Self provides a step-by-step credit building process that could help you do just that. Learn more at self.inc

About the author

Longtime personal finance writer Donna Freedman lives and writes in Anchorage, Alaska. See Donna on Linkedin or Twitter.

About the reviewer

Lauren Bringle is an Accredited Financial Counselor® and Content Marketing Manager with Self Financial – a financial technology company with a mission to help people build credit and savings. See Lauren on Linkedin or Twitter.