How do credit scores work?

How do credit scores work? A guide for teens

Whether you’re just starting out on your financial journey or have already mastered the basics, understanding what a credit score is and how to build it is incredibly important.

The house or apartment you live in, your family car and even your cell phone are impacted by your credit score. Banks, landlords and car dealerships often look at this score to help determine whether they’d like to do business with you. Needless to say, having a good credit score can open a lot of doors as an adult and save you money.

So, if you find yourself wondering what a credit score is and wanting to learn more — like how to build one — then you’ve come to the right place! Let’s walk through everything you need to know.

What is a credit score?

A credit score is a three-digit number ranging from 300–850 which represents how likely you are to pay your bills on time. Think of it like a GPA, but instead of measuring how well you do in school, it reflects how well you manage your money. Lenders (like banks and credit card companies) use this score to determine if they want to give you money; and like your GPA, the higher your score, the more opportunities you’ll have.

Types of credit scores & ranges

Now let’s discuss the different types of credit scores and ranges. Much like with schools — which follow the same general grading principles but vary slightly based on their individual rubrics — credit scores often differ by credit bureau.

The U.S. has three main credit bureaus: Equifax, Experian and TransUnion. The job of these for-profit agencies is to analyze credit information and pass their findings along to lending institutions and credit issuers to help them make informed loan decisions. The output of their analysis is your credit score.

FICO is one type of credit score and it’s pretty widely used by lenders. Below is a breakdown of these scores by range – reflecting how good or bad you are at managing your money:

Poor: 300–579
Fair: 580–669
Good: 670–739
Very Good: 740–799
Exceptional: 800–850

These ranges are important because, with a bad credit score, it’s much harder to get approved for a credit card or loan. Like your GPA, which is a key factor in determining what colleges you can get into, your credit score can hold you back when it comes to getting the best rates for borrowing money. However, unlike your high school GPA, there are always ways to improve your credit score.

How do credit scores work?

Let’s start with credit reports. If your credit score is like your GPA, then your credit report is like your report card - a history of all your borrowing activity, including how much money you’ve borrowed and whether or not you made timely payments. Together, all of these details make up your credit score.

Divided into five main categories, each makes up a different percentage of your score:

  1. Payment history (35%): This shows how good you are at paying back bills. Late payments will lower your score while on-time payments can boost your score or just keep it steady.

  2. Credit utilization (30%): This is the ratio of how much debt versus credit you have available. For example, if your credit card limit is $1,000 and your current balance is $100 (i.e., your debt) then your credit utilization is 10%. The rule of thumb is to keep your total credit utilization under 30%.

  3. Credit history (15%): This represents the average age of your credit life – determined by the average of the total length of time each credit account has been open. In this case, you want to have older accounts in good standing, demonstrating a long history of successfully paying your debts.

  4. Credit mix (10%): This is the combination of debt types you have such as credit cards, student loans and car payments. It’s good to have a mixture of debt types but you don’t need one of every kind.

  5. New credit (10%): This is defined as any new type of debt (credit cards or loans) added to your credit report in the last six to 12 months. While it’s good to establish additional credit, opening or applying for too many new accounts in a short period of time can hurt your score.

How Step can help you build positive credit history as a teen

Historically, there have been very few ways to build credit history as a teen since you can’t legally apply for a loan or credit card in your name until you turn 18. Step is changing that.

Here’s how it works: Unlike other teen banking products, Step allows you to start building positive credit history before you turn 18 while removing the risks associated with more traditional cards such as late fees and interest charges1.

When you open a Step account, you’re also given a Step Visa Card which is linked directly to your account and comes with a unique feature called Smart Pay. Similar to a debit card, you can only spend what’s in your account. With Smart Pay, your purchases are automatically paid off at the end of every month. Not only does this ensure you can’t spend more than what you have, but Step also keeps track of this positive repayment behavior and gives you the option to start sharing it with credit bureaus once you turn 18.

Starting to build your credit history at an earlier age can help you qualify for lower car insurance rates or get a better cell phone plan; and right now, Step is one of the only ways you can do this as a teen.

1: Step Visa Card is designed to help build positive credit history. Positive history is reported on and related only to your Step Visa card activity, subject to your account remaining in good standing, to Transunion®, Experian®, and/or Equifax®. We do not have control over your credit scores generated by the credit bureaus. Even when we report positive credit history on your Step Visa card, your overall credit history and scores, as built by the credit bureaus, may be impacted by your financial activity outside of your Step Visa card (including any other Step loan products or other external activity).

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