Understanding credit is like learning the fundamentals of your sport. Once you know the terminology and how the system works, you can build a strong financial game plan that sets you up for the future.
Credit Score — A three-digit number (ranging from 300 to 850) that represents your creditworthiness based on your borrowing and repayment history. Higher credit score = lower interest rates when borrowing (cheaper). Lower credit score = higher interest rates (more expensive to borrow money).Five Factors That Make Up Your Credit Score
Payment History — Whether you pay your bills on time, including credit cards, loans, and other debts. This is the biggest factor in your credit score, so even one missed or late payment can drop your score significantly.Credit Utilization — The percentage of your available credit that you're currently using, calculated by dividing your balance by your credit limit.Credit Age (Length of Credit History) — How long your credit accounts have been open, measured from the age of your oldest account to your newest one. The longer your credit history, the better, which is why closing old credit cards isn't always a good idea.New Credit (Hard Inquiries) — The number of new credit accounts you've recently opened and how many hard inquiries are on your report. Opening too many accounts in a short period can temporarily lower your score.Credit Mix — The variety of credit types you have, like credit cards, student loans, auto loans, or a mortgage. Lenders like to see that you can responsibly manage different kinds of debt.Other Common Credit Terms
Credit Report — A detailed record of your credit history, including accounts, balances, payments, and inquiries, compiled by credit bureaus.Credit Limit — The maximum amount of money a lender allows you to spend/borrow on a credit card or line of credit.Credit Utilization — The percentage of your available credit that you're currently using, calculated by dividing your balance by your credit limit.APR (Annual Percentage Rate) — The yearly interest rate as a percentage charged on borrowed money, including fees.Minimum Payment — The smallest amount you must pay on your credit card bill each month to keep the account in good standing.Principal — The original amount of money borrowed or the remaining balance owed, not including interest.Interest/Interest Rate — The cost of borrowing money; typically expressed as a percentage of the principal when it's a rate.Secured Credit Card — A credit card backed by a cash deposit that serves as collateral, which is used to build or rebuild credit.Unsecured Credit Card — A standard credit card that doesn't require a deposit and is issued based on your creditworthiness (credit score).Hard Inquiry — A credit check performed when you apply for new credit that can temporarily lower your credit score.Soft Inquiry — A credit check that doesn't affect your credit score, such as checking your own credit or pre-approval offers.Authorized User — A person added to someone else's credit card account who can use the card and may benefit from the account's credit history.Grace Period — The window of time between your billing cycle's end and your payment due date during which no interest is charged on new purchases if the balance is paid in full.Default — Failure to repay a debt according to the agreed-upon terms, which can severely damage your credit and lead to collections.Written by Matthew Park, LRF Intern & Contributor
