FICO scores provide the best guide to future risk based solely on credit report data. The higher the score, the lower the risk. But no score says whether a specific individual will be a “good” or “bad” customer. And while many lenders use FICO scores to help them make lending decisions, each lender has its own strategy, including the level of risk it finds acceptable for a given credit product. There is no single “cutoff score” used by all lenders and there are many additional factors that lenders use to determine your actual interest rates.
The Fair, Isaac and Co (FICO) is the company whose risk-scoring models are most commonly used to generate scores. They have found that certain things predict how well people will pay their bills. The most important factors are:
Previous payment record. Do you pay your bills on time or late? Obviously on-time is better and late is progressively worse depending on how late, how frequently, and how recently. The most important bill to pay on time is your mortgage. Renters get no credit for diligent monthly payments.
Current indebtedness. What are your credit limits and how much have you used up? Maxing out credit line is bad. Getting credit only when it’s needed is good.
These first two factors drive 60 to 65 percent of the overall score. Three other factors make up the rest:
New credit. New credit, statistically, is looked at as “can you handle the added burden?” The model presumes “no”, until you prove over time that you haven’t taken on more than you should, in order to make payments on time.
Applying for new credit. When you apply for credit, the prospective lender calls up your credit report and the credit bureau notes the inquiry on your record. That makes lenders wary. Someone seeking a lot of credit in a short time is inherently more risky than someone not seeking credit. The model doesn’t penalize you if you’re hunting for an auto loan or a mortgage within a short time frame. However, your score will get hurt if you shop around for the best credit card or personal loan by actually applying. When a credit card company pulls your record to make you a “pre-approved” credit offer, the model ignores those inquiries.
Types of credit used. Lenders look to other debt besides credit cards. A mortgage and auto loan show that you can handle the money-management peculiarities of obtaining and maintaining each. Finance company loans are a black mark.
In order for a FICO® score to be calculated on your credit report, the report must contain at least one account which has been open for six months or longer. The report must also contain at least one account that has been updated in the past six months. This ensures that there is enough information( enough recent information )in your report on which to base a score.
Depending on the credit reporting bureau, FICO scores are now at BEACON (Equifax), EMPIRICA (TransUnion) and the Experian/Fair, Isaac Risk Model. FICP scores are based on information in consumer credit reports maintained at one of these credit reporting agencies.
Credit Scores Breakdown
Here is how Fair, Isaac and Co. measures financial risk:
Types of Credit Use: 10%
New Credit: 10%
Length of Credit History: 15%
Amounts Owed: 30%
Payment History: 35%
Basically, for FICO scores- higher score, better rating.
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The frustration that comes with bad credit is irritating…it’s much worse when it isn’t even your fault(i.e. stolen credit card or ompanies making a few honest mistakes in your credit history). If you’re dealing with credit problems because of someone else’s mistake, this information is just for you…..
Understanding Your Credit
In order to smooth out your life with better credit, you have to understand how it works. But don’t worry. We won’t get too technical. What you need to know is that your creditors (or lenders) make reports about your payment history. The information they report includes:
Missed or late payments
Collections (when your debt is sold to collection agencies)
Statements of dispute (more on that later)
Because these reports can be inaccurate, it’s important to monitor your credit frequently. If you become the victim of credit fraud or identity theft, frequent checks become even more important.
Three Reports per Year
Thanks to FACTA (the Fair and Accurate Credit Transactions Act), you are legally entitled to one free credit report from Experian, Equifax, and TransUnion each year.
Your credit reports may vary slightly, but in general, the numbers should be pretty close. If you’re in the process of fixing your credit score, you can check up on in every four months by using the three different reports at different times.
January – TransUnion
May – Experian
September – Equifax
This is a cool trick because you can see if your credit improvement techniques are working. If unexpected spikes start happening in your credit score, you’ll be able to act more quickly using this trick than if you only checked your credit once a year.
Your credit report is a very comprehensive document, comprised of:
1. Your Identity (name, SS number, etc)
2. Your Types of Accounts (loans, debts, credit limits, etc) Collections
3. Your Consumer Statements (Statements of Dispute)
4. Your Hard and Soft Inquiries
A hard inquiry occurs when you apply for credit or loans. Technically, you don’t make the inquiry yourself – the lender does. For this type of inquiry, your permission is required.
-A soft inquiry, on the other hand, is simply a check. You (or even a potential employer) may check your credit score just to see the number. Unlike a hard inquiry, a soft inquiry does not require your permission. Soft inquiries don’t affect your credit score, so you don’t have to worry about that.
These are the things you need to watch out for on your credit report, especially if they’re false:
1. Your missed or late payments
2. Your amount of credit
3. Your various accounts
4. How old your accounts are…etc
Read more on Cafe Credit
When you spot a mistake in your credit history, you can dispute it. When you decide to do this, you’ll have to send a complaint to the three credit bureaus, as well as one to the creditor. We’re used to doing things online. When it comes to disputes, it turns out that paper is better. Sending a written complaint with certified mail with receipt return requested. Instead of using the forms they (the credit bureaus) suggest, write a letter with evidence to support your claims. All of this will be helpful if you ever need to prove this process in court. Here’s a sample letter for disputing credit report errors (from FTC)….
Once you’ve filed your dispute, it may take up to 45 days to hear back. If the bureau decides against your claim, you can add a 100-word statement to your credit report in your defense.
In a worst-case scenario, with serious inaccuracies, you can hire a lawyer to help you mend your credit history.
Dealing with Fraud
Fraud can be devastating – both to your credit and your life. If you believe you are the victim of fraud, you can set up a fraud alert. When you do, companies will need to verify your identity before using you credit for anything such as loans or mortgages.
Freezing your credit essentially locks it up and protects you from identity theft. Every time someone tries to open a new line of credit (such as a credit card) with your name, they’ll need to use a pin number. This is a safe option that works for most people.
Some people, however, need to open new lines of credit frequently. Because there are small fees attached to “thawing” your credit (that is, unfreezing for a specific creditor), the constant fees may add up. They range from 0-$10 and are not a problem for most people (and the added security is often worth it).
As daunting as credit problems can seem, there is plenty of help out there. Most creditors are willing to work with you to create smaller payments if you’re in a really tight space. After all, smaller payments are more valuable to them than the possible bankruptcy that might follow if they kept the payments up. Just keep looking for answers, and always seek professional help.