How do you score?
While your credit report is the basis for all of these appraisals,
many financial institutions judge you by an even more important
number that has been developed from the information on your credit
report: your credit score. For years, this number was a highly
guarded secret. Now, however, the secrecy is being lifted -- in
part due to considerable prodding by consumer groups and Congress.
Fair, Isaac & Co., the California company that originally
developed this tool, is working with Equifax, the big credit
bureau, to make the data available.
Fair Isaac -- named for its founders -- created its FICO scores to
help lenders gauge the likelihood of a loan being repaid. Over the
past 25 years, the scoring process has become so sophisticated
that at least 75% of all mortgage lending approvals are based in
part on a FICO score. But while your credit report is a fairly
straightforward compilation of your payment history on all credit
accounts, the FICO score is a complicated algorithm -- or
computerized model -- that evaluates many factors from your credit
report in different weighting combinations.
Thus, your credit score could be exactly the same as your
neighbor’s but for completely different reasons. And that credit
score is only one factor in granting a loan. For example, two
people with the same credit scores might apply for a mortgage with
the same lender. One applicant has a 20% down payment, while the
other is planning to put only 10% down. Or one is applying for a
jumbo mortgage, while the other needs only a $150,000 loan. Those
additional factors will also affect the credit decision.
The availability of FICO scores to consumers, along with online
credit reports, means you have new ways to check on your financial
status -- and to protect or improve it. But first, you must
understand these reports, along with your rights to know and your
ability to affect the information on them.
Your credit report
Three major credit reporting bureaus keep track of the credit
reports of millions of Americans. They are: Experian, Equifax, and
Trans Union. Typically, all have the same information, except that
some companies are stronger in certain geographic areas and thus
may receive reports on your credit status from local merchants.
Information about all your existing -- and past -- credit
accounts, ranging from credit cards to mortgages, student loan
repayments, and even some local merchants accounts -- is reported
to these credit bureaus. Judgments, liens or bankruptcies are
picked up by the credit bureaus from public records. Your report
also gives your current and previous addresses, your employers and
any other names you have used recently.
Separately, one or more of these companies may also provide
investigative reports, typically used by insurance companies. The
reports include public medical records and even interviews with
your neighbors about your lifestyle! But your standard credit
report covers only the public, financial aspects of your life.
Your credit report is not generated until someone -- either an
authorized credit-granting merchant user or you -- requests a look
at it. Then the computer pulls together all this information,
along with the credit bureau’s explanation of its system. Your
credit report shows your payment history and your outstanding
balances on each account, as well as the maximum line of credit
available. If you’ve been late on one or more payments, it will
show up on your credit report, as well as any charge-offs
(accounts that have been written off as uncollectible). And your
credit report also reveals any inquiries that have been made
recently, whether by a merchant, lender or yourself.
If you see incorrect information on your credit report -- such as
an account that was closed, or one you never opened -- you should
contact the merchant immediately, as well as the credit bureau.
Only the initiating merchant can make a correction. But you can
initiate a dispute with the merchant by contacting the credit
bureau. They’ll contact the merchant to expedite the resolution to
your problem. If you’ve been the victim of “identity theft” --
someone has used your name and Social Security number to open
accounts -- the credit bureau will “flag” your name and stop new
accounts from being opened.
If, after investigation, you still dispute an item on your credit
report, you also have the right to post a short explanatory
statement that will be sent to anyone requesting the report. You
can do this online or by mail. It’s better to resolve disputes
directly with the merchant instead of letting bills go unpaid.
That could ruin your entire credit report.
Most negative information stays on your credit report for seven
years; a bankruptcy and related information stays on your report
for 10 years. But lenders often take an interest in your most
recent payment patterns. So even after a bankruptcy, if you can
get a secured credit card (backed up by, say, a savings deposit at
the issuing institution) and make regular and on-time payments,
you can rebuild your credit without waiting seven or 10 years.
Your credit score
While your credit report is a direct reflection of your financial
activities, your credit score is, as we’ve said, a complicated
analysis of the patterns of your financial life. All of the
information used to create your FICO score is drawn from your
credit report.
Credit scores range from 300 to 850. Only about 11% of the
surveyed population ranks above 800; 29% ranks between 750 and
799.
There are dozens of variables that go into creating your standard
FICO credit score. Then, individual lending or credit-granting
institutions may tweak the formula to create customized scores
that emphasize one or another variable. Some of the most heavily
weighted variables in the credit score are:
- Past payment history. Fair Isaac believes that past
performance is the single biggest predictor of how likely you
are to pay bills in the future. Being 30 days late a few times
and then catching up is less significant than if you’ve been
three or four months late. You’ll get a higher score if your
payments have been current recently and any late payments were
several years ago.
- Balances outstanding. The FICO score heavily weights
the total amount of balances outstanding, and the percentage of
your credit limit you are using on each card. So consolidating
all your outstanding debts on one or two cards, and canceling
the others, while a good money management strategy, might
actually lower your FICO score.
- Financial stability. Your credit stability score is
based on three factors: The length of time you’ve had the same
open accounts, the mix of credit you already have, and the
number of recent credit applications. It helps to have had not
only a credit card repayment history, but also an auto loan or
installment loan. Not having at least one credit card will
significantly lower your score. On mortgage loans, the automated
programs of Fannie Mae and Freddie Mac also factor in criteria
like the length of time you’ve held your current job, and how
long you’ve been in your current residence.
There’s obviously no one thing that you can change quickly to
improve your credit score, but paying bills on time sure helps.
Getting your credit report online
You can contact each of the credit bureaus online to get your
credit report. By law, you must be granted access to your report
without charge if you have been turned down for credit within the
past 90 days.
The Internet now lets you obtain your credit report almost
instantly. Any site offering a credit report online must comply
with security measures standardized by the three major credit
bureaus. So you’ll be asked for more than your name, address and
Social Security number -- information that could easily come from
a stolen wallet. You may also have to provide your mortgage
lender’s name and disclose what you pay each month. Or you may
have to give the amount of your most recent credit-card payment.
The providers of online credit reports include the big three
agencies, which offer a copy of their report for $8.50.
There are offers of free reports, or for inexpensive, combined
reports from all three credit-reporting agencies. But there is a
catch: These companies want you to sign up for a credit-monitoring
service. Those services, which cost up to $70 a year, give you
additional free credit reports, and several promises to notify you
whenever there is activity in your report, such as an inquiry, new
account opened or an unusually expensive purchase. That’s where
these companies really make their money. Accessing your credit
report in partnership with a credit bureau has a minimal cost to
the provider. One large company told me that it already has
500,000 “members,” and 50% of those who sign up for the “free
trial” continue the service.
Getting your credit score online
All of the Web sites listed above promise you some sort of “credit
score.” They’ve tried to match Fair Isaac’s algorithms to
calculate FICO scores. But Fair Isaac has limited its partnerships
only to Equifax.
Those online scores are available on MSN Money
here, as well as at Equifax.com and my FICO.com, along with
your latest Equifax credit report. The FICO score will also list
the most significant factors affecting your score, and an
explanation of each, plus what you can do to improve them. You’ll
also find out how your score compares with national averages.
Just as your SAT scores had an effect on your college admissions,
and possibly on the direction of your future employment, so will
your FICO score affect your financial future. If you’re already
aware of the importance of these issues, find some young person
just starting out and pass this information along.
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