Woman standing at counter in clothing store, paying with credit card.

Your credit score is a three-digit number that shows how well you handle and pay back debt. Paying back debt includes things like mortgage payments, small personal loans, car payments and credit card payments. It’s one of the most important numbers a lender will want to know if you apply to borrow money.

In order to maintain a good credit score, it’s important to understand what credit is, how it’s calculated, how you can build a good credit score and why monitoring your credit is so important. Let’s explore all the details of how to build and maintain a good credit score.

What is credit?

Credit is the ability to borrow money under an agreement with a lender that requires you to pay back the loan later. The agreement usually includes the time frame by which you’ll need to repay the loan, the annual percentage rate (APR), which is the cost of borrowing money, the finance charges and the payment amount.

Credit reports and credit scores are used in determining your availability of credit and are based on a variety of factors (keep reading!) that can build — or hurt — your credit. Borrowing funds wisely  and regular  identity theft monitoring are key to getting (and keeping) your credit in great shape.

Credit reports

A credit report is a detailed summary of your personal credit history. Experian, Equifax and TransUnion are three of the most widely used credit bureaus that provide credit reports. Each report includes identifying information about you and a detailed list of your current and past financial obligations. In order for these financial obligations to “count,” a creditor must report them to at least one credit bureau. Reports include loan amounts, current balances, the date the accounts were opened and payment history — including late payments or defaults.

You can obtain a free copy of your credit report every 12 months from all three credit bureaus by visiting AnnualCreditReport.com, a site authorized by the federal government.

Credit scores

Credit scores also help potential lenders determine whether they would consider  lending to you. Your credit score is a numerical value based on the information on your credit report and measures your creditworthiness as a borrower. Firms like VantageScore and FICO create credit scoring models to calculate your creditworthiness.

For example, FICO rates your credit based on five factors:

  • Payment history (35%)
  • Amounts owed (30%)
  • Length of credit history (15%)
  • New credit accounts (10%)
  • Credit mix (10%)

Your score can be negatively impacted if you make late payments, carry high balances or have a lot of credit inquiries in a short period of time, so think twice if you’ve recently opened a credit account before applying for another one. (We’ve all been tempted to open a store card to score a great discount!)

Credit and identity theft monitoring

Credit monitoring helps you track activity on your credit report and alerts you when there are changes.

Credit monitoring typically alerts you when:

  • A new loan or credit account is opened in your name
  • Your personal information changes
  • Your credit limits change
  • A late payment is reported by a creditor or debt collector
  • Public records show a legal judgment against you
  • You’ve filed for bankruptcy
  • A company checks your credit history

Note: Credit monitoring is not the same as identity theft monitoring, which alerts you when your personal information (bank account, Social Security number, driver’s license, passport, etc.) is used in a suspicious way.

Smart borrowing

Why is it important to be a good borrower? When it comes to applying for things you buy on credit (like a car or a home), lenders want to know you won’t default. And lenders are not the only ones that might consider your credit score: potential employers, insurance companies and landlords may use credit to determine whether you are a good candidate.

Smart borrowing includes:

  • Paying your bills on time
  • Keeping your credit utilization below 30%
  • A long credit history (good habits start early!)
  • A varied mix of credit (think car loans, mortgages, credit cards and personal loans)
  • Avoiding many new credit accounts or inquiries within a short period of time

What is a good credit score?

Different credit scoring models (like FICO or VantageScore) define “good credit scores” differently, but typically scores above 660-670 are considered good. “Good,” “very good” and “exceptional” credit scores can help you gain access to more competitive APRs, help you get approved for important loans (such as a mortgage), and can help you pass various screenings from potential lenders, landlords or employers.

FICO Score Ranges

  • 800-850 – Exceptional
  • 740-799 – Very good
  • 670-739 – Good
  • 580-699 – Fair
  • 300-579 – Poor (commonly called “bad credit”)

VantageScore Ranges

  • 781-850 – Excellent
  • 661-780 – Good
  • 601-660 – Fair
  • 500-600 – Poor
  • 300-579 – Very Poor (commonly referred to as “bad credit”)

How are credit scores calculated?

Credit scores are calculated with credit scoring models that use various factors (such as your payment history) to assess your creditworthiness and predict the probability that you could default on a loan.

 

Factors that are used to calculate your credit score include:

Payment history

Your payment history accounts for payments to past and current creditors, including utility companies, retail department store accounts, credit card companies, auto lenders, student loan lenders, finance and mortgage companies and more. When you apply for a new loan, a lender will be able to see whether you’ve made late payments or missed payments completely. They’ll also gain insight on bankruptcies, foreclosures and any accounts reported to collection agencies.

Credit history

Credit history shows how long your accounts have been in operation. In other words, how long you’ve been building your credit. A longer credit history helps showcase consistency and reliability in your credit worthiness.

Amount of credit you use

The amount of credit you’re using (aka your credit utilization) shows how much of your available credit you typically use. Using all of your available credit (often referred to as “maxing out” your credit) is generally considered as a risk by creditors.

 

Keep in mind, it’s difficult to build credit without using credit. It’s typically recommended to keep your credit utilization below 30% of your available credit. For example, if you have a credit limit of $3,000, using less than $1,000 of credit at any given time would keep you under 30% credit utilization.

Type of credit used

Credit scoring models look at how well you tackle a wide range of credit products. Different types of credit such as auto loans, mortgages, student loans and credit cards demonstrate consistency and experience as a borrower. A good credit mix can also include installment loans (such as a fixed sum mortgage that gets paid down in installments) and revolving credit (such as credit cards that you can use and then replenish as you pay them down).

 

New credit

If you’ve recently opened several new accounts, it could affect your credit. New credit applications may trigger hard inquiries, which occur when lenders and creditors check your credit in response to a credit application. Fortunately, if you make multiple inquiries (such as for a home loan), it may be considered one inquiry over a specified amount of time. Checking your own credit doesn’t count as a hard inquiry — these are considered “soft inquiries.”

How you can build good credit

Let’s take a look at a few ways you can work toward building your credit. It may take time to build a good to excellent score, but there are many advantages you can enjoy with strong credit.

Pay bills in full and on time

Paying your bills on time may be the best way to improve credit score since payment history carries a lot of weight. Just like on-time payments can do a lot to help, late payments and defaults can do a lot of harm (so do your best to prioritize). On top of on-time payments, you paid-in-full payments are also favorable because they bypass the “minimum payment strategy.” When you make minimum payments, a lot of your hard-earned money will go toward interest, so on top of helping build your credit, making in-full payments can save you money in the long-term.

Maintain a low credit utilization rate

Try to keep your total credit utilization rate below 30% and avoid “maxing out” any revolving credit (such as credit cards). Keep in mind that this only applies to revolving credit, not installment loans like a mortgage.

Limit new credit applications

Be mindful of how many new credit accounts you open, especially while you are applying for a new loan. In terms of credit card applications, as you open new credit card accounts, monitor your credit closely, and avoid opening additional credit accounts until your score has recovered from any previous inquiries.

Get a secured credit card

A secured credit card can help you establish (or reestablish) credit with a down payment. Secured credit cards can be a helpful tool for those with no credit history or bad credit to help build credit without getting approved for traditional credit accounts or loans. Secured credit cards work by allowing you to put down a sum of money, called a security deposit, with a credit card issuer.

Why credit monitoring is important

Whether you plan to build credit to buy a home, finance a car, or just for your overall financial health, be sure to guard it and keep it safe. Cybercriminals and identity thieves often target those with good credit, opening credit accounts and loans, which can default and hurt their victim’s creditworthiness. Knowing your credit limit, staying out of credit card debt and tackling the other items listed above may help you stay out of “bad credit” territory.

Make credit part of your financial picture

Wherever you are in your financial journey, monitoring and building your credit can help you on the path toward your financial goals. Just like with any lofty goal, consistency and organization are key.

Learn more about the advantages of good credit.