Your Credit Scores Again
It's important for every consumer to learn what a credit score
is and how to improve it. Most consumers do not know what their
credit scores are, but these scores are used in dealings with
such diverse agencies as credit card companies, home equity
lenders, auto loan lenders, and finance companies when
considering appications for credit or loans.
Credit scores are usually calculated by a computer model
created, most often, by Fair, Isaac & Company (or "FICO,"
leading to the common generic term "FICO score"). A credit
score is intended to be a predictive summary of a loan
applicant's credit history. A low score can mean denial of a
credit card or loan, or if the application is accepted, a
higher interest rate. Also, some lenders use credit scores and
other information to set the "price" for processing a loan.
Statistically, low credit scores also correlate with other
risky behaviors such as fraud and auto accidents.
There a many factors affecting the final credit score. Payment
history accounts for 35%. A credit score is negatively affected
by a history of late payment of bills, accounts sent to
collection agencies, or declared bankruptcy. The more recent
the problem, the lower the score -- a 30-day late payment a
month ago has more effect than a bankruptcy five years ago.
Outstanding debt accounts for 30%. If the amount owing is close
to the consumer's credit limit, this will likely to have a
negative effect on the credit score. A low balance on two cards
is better than a high balance on one.
Length of credit history accounts for 15%. The longer the
accounts have been open, the better.
Recent credit report inquiries account for 10%. If the
applicant has recently applied for many new accounts, that may
negatively affect the score. Promotional inquiries do not have
any effect.
Types of credit in use accounts for 10%. Loans from finance
companies generally lower the credit score. FICO finds this
more important when there is less of other types of credit
information about the applicant upon which to base a score.
Although this is a general guide as to what credit scoring
companies deem important, it should be noted that some
companies may consider different factors.
Credit scores range from 300 to 900, with an average of
approximately 750. According to the model, as the score
increases, the risk of default decreases. Studies by the loan
industry show a direct correlation between low scores and high
default rates. Therefor, it may be difficult for an applicant
with a low score to convince a creditor to offer an affordable
loan, or even any loan at all. But just as credit history can
vary from credit bureau to credit bureau, so can a credit
scores. It is possible to have a high score with one credit
bureau (Equifax, Experian, or TransUnion) and a low credit
score with another, just as it is possible to have a clean
credit history with one bureau and a sullied record with
another.
However, extremely wide-ranging credit scores are uncommon,
though variations of up to 100 points have been noted by some
lenders. To get an accurate picture, lenders often take the
average of all the applicant's scores. Narrow ranges of 20 or
25 points are more common.
Consumers may obtain their credit scores from credit bureaus by
paying a fee (the Federal Trade Commission sets the fee). The
bureau must provide the score, the range of possible scores
under the scoring model used, four key factors that affected
the score, the date on which the score was created, and the
name of the entity that provided the score (such as Fair,
Isaac). Note that the score and the scoring model provided may
vary from those a given lender uses. Federal law allows
consumers three freee credit reports every year. If you get
your credit score from one or more credit scorers, remember
that the score may vary from one credit score company to the
next.
Fair, Isaac offers several reccommendations to consumers
seeking to improve their credit scores. Pay bills on time; make
up missed payments and keep all payments current. Maintain low
balances on credit cards and other "revolving debt". Maintain
the "balance-to-limit ratio" of credit cards below 50%. It is
usually better to carry smaller balances on several cards than
to pile everything onto one card. Apply for a new card if
necessary, rather than piling all purchases onto one.
Pay off debts rather than transferring them to a new account.
Don't close a rarely-used credit account without opening a new
one, as a history of wisely-used credit boosts the credit
score. However, do not apply for new, unneeded credit cards
just to increase available credit.
Loan applicants should not give up seeking credit just because
of a low credit score. Sometimes credit reports contain errors,
and it is possible to obtain a copy of the report, fix the
problem, and explain the situation to the lender. The majority
of lenders will override credit scores if they feel an
applicant is a good credit risk despite a low credit score.