Credit score is mostly generated from credit report. For example, your credit card company reports your maximum allowed credit on your credit card as well as your monthly payment on the credit report. The same goes to your car loan, your mortgage, and any other loans. Any other payment history, such as rent or even phone bill, can also show up in the credit report.
Obviously there are three things that are important to your credit score
- whether you are paying on time : if you are never late on your payment, people think that you are more likely to make future payment on your loans, and hence better score;
- what's your total credit available : i.e. in total how much other people are willing to loan money to you historically. A person with $100,000 credit limit on his/her credit card is obviously more creditworthy than a person w/ $1,000 credit limit.
- what's the ratio of the credit you used vs. the credit available to you : if you have $100,000 credit limit but you only use $1,000 on monthly basis, it means that you have no problem paying the bill.
Since everthing is computerized, lenders, such as banks and credit card companies, use credit scores to evaluate the potential risk posed by lending money to you and to mitigate losses due to bad debt. They simply run the credit report and determine who qualifies for a loan and at what interest rate. The better your credit score, the less risk you are as a borrower, and hence the lower interest rate you will get.
Credit scoring is not limited to banks. Other organizations, such as mobile phone companies, insurance companies, landlords, and government departments employ the same techniques.
