Different Types of Credit and How They Affect Your FICO Score

Different Types of Credit and FICO Score

Good credit, bad credit, large credit, small credit — after a while, building credit can feel like a Dr. Seuss rhyme. With so much information out there about how to improve credit, we’re here to set the record straight.

The fact of the matter is not all credit is the same, and it’s important for informed consumers to have a grasp on the intricacies that make different kinds of lending unique before taking out a loan. For example, do you know the various factors that go into calculating your credit score?

Your FICO score is calculated by five different factors:

  • Payment history (35 percent) — The most important factor. Indicates any late or missing payments.
  • Level of debt (30 percent) — Credit utilization is another major factor, which is the ratio of your credit balance vs credit limit.
  • Age of credit (15 percent) — How long your accounts have been open.
  • Inquiries (10 percent) — The number of credit-based checks you did in a 12-month period.
  • Types of credit (10 percent) — Lenders will look to see if you have experience with a diversity of loans.

Read ahead to learn the ins and outs of credit, and why mere on-time credit card payments simply aren’t enough to significantly boost your credit score.

Why diversifying matters

While the “types of credit” you have only account for 10 percent of your credit score, those striving for an exceptional score might want to take it into consideration. If you take one thing away from this blog it should be this: you must appeal to all credit factors to achieve a coveted score. This means what might seem like a meager 10 percent can’t be ignored.

There are two basic types of credit:

  • Revolving credit — There is no predetermined amount. You will be confined to a credit limit, but the amount you spend is up to you.
    • Examples: Credit cards, home equity lines of credit
  • Installment loan — A loan you pay back incrementally. The loan amount is determined before approval and never changes.
    • Examples: Car loan, mortgage

Lenders look that you have experience with both types of credit in order to assess your ability to manage different kinds of loans. Think of diversifying credit type as a way to prove you are capable of handling both revolving credit and instalment loans.

The credit card in your wallet might be a good jumping off point for establishing credit, but at a point it’s just not enough. Even perfect payment history is not enough to bump you to stellar FICO score if you’re not diversifying credit.

The effect of loan amount

If you throw a pebble in the ocean there won’t be much of ripple, but if you throw a boulder there will be a huge splash. While this might sound like a proverb found in a fortune cookie, this sentiment actually applies to borrowing too: loan amount has the power to make or break your credit.

If you’re interested in building credit, and have the ability to make regular payments, one of the best things you can do is take out a big ticket loan like a mortgage. Taking out a mortgage is not only an American rite of passage, but also a great way to impress lenders.

Consumers with a pristine payment record on “big ticket” loans simply stand out more than those with no more than credit cards on their credit report. Put yourself in the lender’s shoes: who would you rather lend money to — someone with a perfect payment record with one credit card, or someone who successfully repaid a mortgage?

The importance of finding the right loan

What are you waiting for? Go sign a mortgage — that’s how you get perfect credit, right? Well, not exactly. Overextending yourself is one of the worst things you can do to your credit score. Since payment history is the most important credit factor, if you bite off more than you can chew you run the risk of doing more harm than good.

Many people find it useful to follow a tried-and-true credit path — starting with a small credit card, working up to an auto loan, and eventually apexing at a mortgage. This method allows you to gradually progress to large loans without becoming financially overwhelmed.

Getting the loan you want with credit repair

Sometimes consumers get trapped in the vicious cycle of borrowing and defaulting — barely making loan payments and settling for mere interest payments. After playing catch-up for awhile, it can feel impossible to get your head above water in terms of repaying a loan.

In this conflict a dangerous catch-22 of building credit is revealed: the only way to get good credit is to borrow money, but the only way to borrow money is to have good credit. For many this can feel like hitting a brick wall — but there’s a better way.

Professional credit repair is the first step toward overall better finances, and it provides an easy way to jumpstart the process of raising your credit score. CreditRepair.com leverages unparalleled professionalism for disputing false or misleading credit report items. Members see an average 40-point score improvement in the first four months of their subscription.

Contact CreditRepair.com for a personalized credit audit of all of your credit accounts. Leave it to the professionals — start on the path toward better credit, lower interest rates, and loan approval.

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