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- Nov 6, 2003
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So many of us know about the FICO credit score and how it's the de facto number that creditors go by, but since Fair Isaac Corporation needs to stay in business, they'll keep the formula a silly proprietary secret. 🙄
Why do I really care about this number that defines my financial life? I hate interest. I'm also in a lot of student loan debt, and many of us will continue to apply for more loans (of any type). The higher the score, the lower the interest rates on my loans, which translates to literally thousands saved on car loans, mortgage payments, student loans, etc. I might save $10-30k or more in interest from student loans alone from caring about my score, and think of all the tacos I could buy with the money saved...
Some quick web searches or many personal finance books will tell you that 30% of the score is calculated from credit utilization (a.k.a. debt-to-credit ratio), but they don't tell you an actual "magic number" for an optimum score. Some say keep it below 50%, many say 35% or 30%. But what about lower? Will it make any difference, even slightly? And what about the myth of 0% being a little worse than 1-3% or so?
Well, since joining some other forums and reading everything I could get my paws on, I give you this image that I've carefully stolen:
So from the data, the lower your credit utilization, the higher the FICO score. The only exception is if you're below the "sweet spot," (around 700), then it's better to leave 1% of your balance still on your cards when the credit card companies do their monthly reports to the credit bureaus. If you're above the sweet spot, it's best to pay in full before your bill hits for that month.
Edit 12/1/06: It really depends on each person's individual situation, so do some quick math to find what's best for you. Add up all the balances on your credit cards and store cards (anything listed as "revolving"), and then add up the limits on them to find your total credit limit, then divide to find your debt-to-credit ratio (aka % utilization). For someone with a really high total credit limit (say you have $50,000 or $100,000), having a $1000-5000 balance and taking advantage of the grace period is really no big deal. But for someone with low credit limits (say $10,000), having a balance for that statement period is gonna shoot the ratio to 50% or even higher.
The main idea is to keep the ratio as low as possible each month, and there are two solutions:
1) Pay it down extra early if you have a low total credit limit.
2) Try to increase your total credit line (through a combination of credit line increases on your current credit cards as well as through applying for new credit cards if necessary) so that your normal spending for the month makes up a smaller percentage.
The point of the graph is to show that the score does indeed get higher if you get below the magical 30% mark... i.e., having a 5% balance is better than 10% which is better than 30%.
(The below is from the original post but I made it too confusing and it doesn't apply to everyone. Ignore it.)
(Note: I'm not saying leave a balance if you're under 700. Still pay in full if you can, but instead of paying in full before you get your bill, pay mostly in full.)
Just thought I'd share to help clear up some of the top secret mystery. Here's to gunning for higher credit scores and better loan terms.
Edit: To clear it up some more: Most cards have grace periods. I like mine. It's my friend. I have 25 days after the bill to pay in full, and I basically get a 0% loan. Before reading about this, I didn't know it actually made a difference if I paid in full before my bill hit.
Example: Buy a $100 widget today, October 22. Say the bill comes on October 31, and I have until about November 25 to send in payment. What I'm advocating is paying in full before October 31. This may be impossible for those who are tight with money right now and have to carry a balance (or at least make use of their grace period), but it's idealistic to not even use the grace period in the first place. And as a newfound FICO gunner, that's what I'll aim for.
Why do I really care about this number that defines my financial life? I hate interest. I'm also in a lot of student loan debt, and many of us will continue to apply for more loans (of any type). The higher the score, the lower the interest rates on my loans, which translates to literally thousands saved on car loans, mortgage payments, student loans, etc. I might save $10-30k or more in interest from student loans alone from caring about my score, and think of all the tacos I could buy with the money saved...
Some quick web searches or many personal finance books will tell you that 30% of the score is calculated from credit utilization (a.k.a. debt-to-credit ratio), but they don't tell you an actual "magic number" for an optimum score. Some say keep it below 50%, many say 35% or 30%. But what about lower? Will it make any difference, even slightly? And what about the myth of 0% being a little worse than 1-3% or so?
Well, since joining some other forums and reading everything I could get my paws on, I give you this image that I've carefully stolen:
So from the data, the lower your credit utilization, the higher the FICO score. The only exception is if you're below the "sweet spot," (around 700), then it's better to leave 1% of your balance still on your cards when the credit card companies do their monthly reports to the credit bureaus. If you're above the sweet spot, it's best to pay in full before your bill hits for that month.
Edit 12/1/06: It really depends on each person's individual situation, so do some quick math to find what's best for you. Add up all the balances on your credit cards and store cards (anything listed as "revolving"), and then add up the limits on them to find your total credit limit, then divide to find your debt-to-credit ratio (aka % utilization). For someone with a really high total credit limit (say you have $50,000 or $100,000), having a $1000-5000 balance and taking advantage of the grace period is really no big deal. But for someone with low credit limits (say $10,000), having a balance for that statement period is gonna shoot the ratio to 50% or even higher.
The main idea is to keep the ratio as low as possible each month, and there are two solutions:
1) Pay it down extra early if you have a low total credit limit.
2) Try to increase your total credit line (through a combination of credit line increases on your current credit cards as well as through applying for new credit cards if necessary) so that your normal spending for the month makes up a smaller percentage.
The point of the graph is to show that the score does indeed get higher if you get below the magical 30% mark... i.e., having a 5% balance is better than 10% which is better than 30%.
(The below is from the original post but I made it too confusing and it doesn't apply to everyone. Ignore it.)
(Note: I'm not saying leave a balance if you're under 700. Still pay in full if you can, but instead of paying in full before you get your bill, pay mostly in full.)
Just thought I'd share to help clear up some of the top secret mystery. Here's to gunning for higher credit scores and better loan terms.
Edit: To clear it up some more: Most cards have grace periods. I like mine. It's my friend. I have 25 days after the bill to pay in full, and I basically get a 0% loan. Before reading about this, I didn't know it actually made a difference if I paid in full before my bill hit.
Example: Buy a $100 widget today, October 22. Say the bill comes on October 31, and I have until about November 25 to send in payment. What I'm advocating is paying in full before October 31. This may be impossible for those who are tight with money right now and have to carry a balance (or at least make use of their grace period), but it's idealistic to not even use the grace period in the first place. And as a newfound FICO gunner, that's what I'll aim for.
