When you apply for an auto loan, personal loan, or credit card, your credit score determines how likely you are to get an affordable interest rate. If you want to build your creditworthiness, the first step is a good understanding of how credit scores work.

Your credit score is a number based on your credit history, and it’s often one of the first things lenders look at when you apply for a

car loan

. A good credit score usually helps with things like lower interest rates and increased approval odds, while a poor credit score might lead to a limited line of credit or even being rejected outright.

Before you apply for your next car loan or credit card, check out this guide on how credit scores work from

Jerry

, the

car insurance

expert and personal finance enthusiast. We’ll go over credit bureaus, the different types of credit scores, and how building creditworthiness can ensure you get a good interest rate from your lender.

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What is a credit score?

Your three-digit credit score is a number assigned to you based on your credit report. Your credit report reflects your credit history, which is a record of things like:

Your credit mix (i.e., credit card accounts, types of loans, etc.)

Your length of credit history

Your credit card debts and outstanding loans (aka amounts owed)

Your payment history

Other factors

A typical credit score ranges somewhere between 300 and 850.

Your credit score has a major effect on whether or not you’re approved for a loan and the total amount you’re approved for. In most cases, a higher score improves your chances of getting approved for a loan with a low interest rate. Borrowers with a low score are often seen as a bigger risk and may have a harder time opening new accounts or getting the loan terms they want.

The 3 major credit bureaus

The three major credit bureaus are Experian, Equifax, and Transunion. These credit reporting agencies collect data from credit card companies and financial institutions and compile it into credit reports. Credit reports are then sold to lenders, who use them to determine your credit risk.

If you want to see your credit score, you are entitled by law to one free credit report every 12 months. All you need to do is visit

annualcreditreport.com

, provide some identifying information, and request your free credit history.

MORE:

How to get a copy of your credit report

Types of credit

Three types of credit affect your credit score: installment credit, revolving credit, and open credit. Here’s how they work:

Installment loans are when you borrow a set amount of money and pay it off by making regular payments over a set amount of time.

Car and personal loans

, mortgages, and student loans are all considered installment credit.

Revolving loans allows you to borrow money against a line of credit. When you pay it off, you can continue using the line of credit without having to apply for a new loan. The most common example of revolving credit is a credit card.

Open loans are when you make payments on a regular basis, but the exact amount can change from one payment to another. Your electricity bill, water bill, or cell phone bill are types of open credit.

What counts as a good credit score?

The Fair Isaac Corporation(FICO) credit scoring model uses specific ranges to rank your score from bad to very good. A FICO score of 670 or higher is considered good credit. A FICO score below 630 is considered bad, while anything above 720 is considered very good.

Remember, lenders and credit card issuers perform credit inquiries to access your score, then use it to determine your creditworthiness, set your available credit, and more. This means that borrowers with a higher score will have an easier time opening new accounts and getting approved for loans. Plus, the total amount they’re approved to borrow will be higher.

MORE:

How to check your credit score

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Why your credit score matters

Your credit score has a direct impact on how likely you are to get approved for things like car loans, personal loans, student loans, mortgages, and credit cards. It also affects what kind of interest rate you qualify for and your available credit limit.

Most lenders consider borrowers with high credit scores to have good personal finance habits and be low-risk borrowers. As a result, lenders offer them lower interest rates.

On the other hand, borrowers with low credit scores are considered high risk and may only qualify for loans with higher interest rates. This means that the cost of borrowing money is higher for people with bad credit.

Key Takeaway Having good credit improves your odds of being approved for a loan, and for getting a lower interest rate.

How to build creditworthiness

A bad credit score can cause some major frustration! It can lead to denials, a lower line of credit, or unfavorable terms. But just because you have a bad credit score now, doesn’t mean it has to stay that way.

There are steps you can take to build your creditworthiness, and you can use a free credit monitoring service like

creditkarma.com

to keep track of your progress.

Keep your credit utilization low

While you need credit in order to build creditworthiness, keeping your credit utilization low is one of the best ways to improve your credit score. Credit utilization refers to the percentage of your credit limit that you’re currently using.

For example, using a credit card regularly but avoiding credit card debt by paying off the balance in full every month is an excellent way to improve your credit score. Here are a few more ways you can lower your credit utilization:

Use more than one credit card. It’s better to keep a low balance on two or three credit cards than to have a single card with a higher balance.

Pay off your purchases immediately. Paying off your credit card purchases as soon as you make them, instead of waiting until the end of your billing cycle, can help improve your credit score.

Ask for a credit limit increase. When you have a card with more available credit, your total spending amounts to a smaller percentage of your credit limit. Remember, getting a credit limit increase doesn’t mean you should increase your spending! Use the credit limit increase to lower your utilization rate and improve your credit score.

Don’t make late payments

While making a payment a few days after its due date won’t affect your score, when you pay a bill more than 30 days late, it gets reported to the credit reporting agencies and could tank your score. Paying all your bills on time, or as close to on time as possible, keeps your credit score stable.

If you want to check whether you have late payments on your credit score, simply check your credit report with one of the major credit bureaus or at

annualcreditreport.com

Monitor your credit report for errors

While you’re entitled to a free credit report once a year from the major credit bureaus, it's a good idea to monitor your credit report for errors on a regular basis. If you don’t want to pay for extra credit reports, credit monitoring services can help you spot mistakes, inconsistencies, or signs of identity theft on your credit report—all of which can lower your score!

Here are a few providers that offer credit monitoring:

Key Takeaway You can raise your credit score by keeping your credit utilization low, making payments on time, and monitoring your credit report for errors.

How to find cheap car insurance (even with bad credit)

When

car insurance companies calculate your insurance rate

, they take a lot of factors into consideration. The type of coverage you want, your age, driving record, and the type of car you have all affect how much you pay for your

car insurance

But providers also consider your credit score and credit history. This means that some drivers with bad credit pay more for their coverage, even if they have a clean driving record!

Finding affordable car insurance with bad credit can be frustrating, but don’t worry—you’ve got

Jerry

, the

trustworthy super app

, on your side. Jerry doesn’t judge, we just find you the coverage you want at the lowest possible rate!

Here’s how it works: download the app and answer a handful of questions about yourself and your vehicle. Then, Jerry will scan the best coverage options from more than 55 of the nation’s top insurance providers, and generate a comprehensive list of cheap quotes that fit your needs and budget. The best part? All that work only takes Jerry 45 seconds!

Once you see a policy you like, just give it a tap and sit back while Jerry handles all the phone calls and paperwork for you. We can even help cancel your old policy. On average, Jerry users save over $800 a year on car insurance!

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FAQs

What is considered a good credit score?

A credit score of 670 or higher is considered good, while anything over 720 is considered very good.

How long does it take to raise your credit score?

The exact amount of time it takes to raise your credit score depends on the reason your credit is low. If you have bad credit simply because you have a short credit history, you can raise your score very quickly. But if you have bad credit due to a high amount of credit card debt or bankruptcy, raising your score could take longer.

By working on your personal finance habits, lowering your credit card utilization, and making on-time payments, you will start to improve your credit.