Whether you are applying for a mortgage, car or personal loan, your lender will want to know one number: your three-digit credit score. This number has become perhaps the most important for anyone seeking a loan.
There's a reason for this: Your three-digit credit score tells lenders exactly what kind of a borrower you've been. Have you been a sloppy user, one who pays bills late or misses payments on a regular basis? Your credit score will show it. Have you been a responsible borrower, one who's never paid a credit card bill late or missed a car loan payment? Your credit score will show that too.
Before applying for any loan, then, it is important to understand the basics of your credit score and what it means.
Scoring
Most lenders today rely on the FICO credit-scoring system. This three-digit score ranges from a low of 350 to a high of 850. If you want to borrow money, and you want to borrow it at the lowest possible rate, you'll need a score closer to the higher end than the lower.
What does your FICO score include? According to myFICO.com, your credit score is based on your payment history, or how often you miss payments or pay your bills late. The amount of debt you owe, the length of your credit history, and the types of credit that you use will also impact your credit score.
The most important of these factors is your payment history, which FICO says accounts for 35 percent of your credit score. Coming in a close second is the amount of debt you owe, which accounts for 30 percent of your score.
The lesson here? If you want an excellent credit score, you need to pay your bills on time, never miss a payment and pay down as much of your credit card debt as possible.
Of course, other factors will negatively impact your credit score. If you lose a home to foreclosure, you can expect your score to drop by 100 or more points. That foreclosure will remain on your credit report for seven years. If you declare bankruptcy, your score will again fall by 100 or more points. Depending on the type of bankruptcy that you file, this filing will remain on your credit report for seven to 10 years.
What lenders want
Though it varies by lender, most lenders reserve their lowest interest rates for those borrowers whose FICO credit score is 740 or higher. That is considered an excellent score by most lenders.
If your credit score falls below 640, though, you might struggle to obtain a conventional mortgage loan. That is because lenders worry that borrowers with such low scores are more likely to miss payments and default on their loans.
If you want to qualify for today's lowest interest rates, you'll need to bring an excellent credit score to the table. If you know you have a low score, it might make more sense to establish a history of paying your bills on time and cutting down on your credit card debt before you borrow again. You will benefit financially when you apply for that next mortgage, car, or personal loan.