Understanding Your Credit Score
Credit score rating system is meant to develop a snapshot of the risk you currently represent to a lender. Several…
Credit score rating system is meant to develop a snapshot of the risk you currently represent to a lender. Several parameters in your credit file, including length of credit history, number of open accounts, loans, mortgages, public records, and others are formulated to produce a three-digit score between about 300 and 850. There are other scores used by lenders and insurance companies (some of which are developed by FICO) such as Application and Behavior scores. These other scores take other information into account. Usually a lender will use a combination of your credit score with other factors when determining your risk. They all have the same objective, to determine the borrower’s potential risk. Regardless of whether the score was generated by FICO or a system based on FICO parameters, they all yield an industry standard three-digit score.
What Does Your Score Mean?
Credit rating systems all have the same objective, to determine the borrower’s potential risk. Regardless of whether the score was generated by FICO or a system based on FICO parameters, they all yield an industry standard three-digit score. This score places the borrower in one of three main categories.Prime, Sub-prime, and Risky
Prime If your credit score is above 680, you are considered a “prime borrower” and will have no problem getting a good interest rate on your home loan, car loan, or credit card. Sub-Prime If your credit score is below 680, you are “sub prime”, and will likely pay a much higher interest rate on your loan. Risky Below 560 is the risky score. At least that is how most lenders and credit issuers perceive it. You can still get a credit card but you will likely be hit with a security deposit or high acquisition fee. In addition to that your interest rate will likely be 22 to 23%. You can forget about most home loans and the majority of new car loans at this score. Below 560 is no place to be. You will pay much, much more in higher interest and unnecessary fees. You may even pay more for your insurance rates. A very low score can even prevent you from getting a job with many companies.How are Credit Scores Calculated?
The methods of calculating your FICO may differ slightly depending on the credit bureau. When obtaining your score from one of the Credit Bureaus it is important to understand that your score does not come directly from FICO. It is adapted to each bureau and is given its own name: Equifax uses “Beacon”, Trans Union uses “Empirica”, and Experian uses “Experian/Fair Isaac.” These scores are also referred to as your “Bureau Scores”. Since your score is derived from your bureau data, it will change every time your reports change. However your score is calculated, it will always take into consideration many categories of information. No one piece of information or factor determines your score. As the information in your credit report changes, the importance of one or several factors may change in your FICO score. Lenders look at many things when making a credit decision, including your income and the kind of credit you are applying for. However, your FICO score does not reflect these facts as it only evaluates the information retained by the credit reporting agency.Improving Your Credit Score
Now that you know how your score is calculated, you can begin making changes to your current financial planning. The best things you can do are simple.- Pay your bills on time. Sounds simple, but this is the biggest thing you can do to keep your score high. Delinquent payments and collections have a major negative impact on a score.
- Keep your balances low on unsecured revolving debt like credit cards. High outstanding balances can affect a score.
- The amount of your unused credit is an important factor in calculating your score. You should only apply for credit that you need.
- Make sure the information in your credit report is correct. If its not, dispute it with the credit agencies and/or with the creditor directly.