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Credit
Score
A
credit score is a numerical index which represents an estimate
of an individual's financial creditworthiness. It is based
on a subset of the information in an individual's credit report.
Lenders, such as banks and companies, use credit scores to
determine credit limits and interest rates.
The best-known credit score in the United States is the FICO
creditscore calculated using mathematical formulae developed
by the Fair Isaac Corporation. The three major American creidit
reporting agencies (Equifax, Experian and Trans Union) all
use variations on this scoring formula under different names,
the best-known of which are the Beacon score and the Emperica
score.
FICO scores and its variants are designed to measure the risk
of default, by taking into account various weighted factors:
* 35% punctuality of payment in the past
* 30% capacity used, i.e., ratio of current revolving debt
(e.g. credit card balances) to total available revolving credit
* 15% length of credit history
* 10% types of credit used (installment, revolving)
* 10% amount of credit obtained in the recent past
The above percentages are approximate. Current income and
employment history do not influence the FICO score.
There are other special factors which can weigh on the FICO
score. One is that any monies owed because of a court judgement,
tax lien, or similar carry an extra negative penalty, especially
when recent. Having above a certain number of consumer finance
company credit accounts also carries a negative weight (critics
say that this causes a vicious cycle, locking people into
continuing to use consumer finance companies). The number
of recent checks also can weigh down the score, although the
creidit agencies allow for credit checks made within a certain
window of time to not aggregate, so as to allow the consumer
to shop around.
FICO scores range from about 300 to 850 and exhibit a left-skewed
distribution with a median around 725. A score above 720 is
considered to be "good credit," and a score below
600 is considered to be poor.
As a result of the FACT Act (Fair and Accurate Credit Transactions
Act), free reports will be phased in during a nine-month period,
rolling from the West Coast to the East beginning December
1, 2004. By September 1, 2005, free reports will be accessible
to all Americans, regardless of where they live.
Recently, some of the agencies which generate credit scores
have also been generating insurance scores, which insurance
companies then use to rate the quality of potential customers.
Ways to improve credit score:
Since the method used to calculate the creditscore is essentially
just an extremely complicated formula, one can change the
score by causing changes in the variables that are important
factors in the equation. Some ways of doing this are:
* Paying bills on time, since any payments more than 30 days
late will affect the credit score. Note that a bill issued
March 15 with a due date of March 31 does not become 30 days
late until April 30.
* Paying the higher payment if a crunch makes it necessary
to choose between paying two bills. For example, if an $800
house payment and a $300 car payment are due, and the person
can only lay hands on $800, it will work out better for their
credit score if they pay the house payment.
* Never declaring bankruptcy, since it can affect credit scores
for more than a decade, depending on state law. Anything is
better for one's credit score than bankruptcy – even
working with a credit counseling service to get everything
paid down.
* Trying to maintain 3-5 credit lines, since one's score will
be lower if he doesn't have any credit.
* Trying to get rent and utility payments factored into one's
credit score as nontraditional credit if the person otherwise
has no established credit.
* Attempting to stay within 10-30% of the maximum on each
credit line, and not go over 50% on any credit line in any
event. Although this contradicts the advice many credit companies
give when trying to get new customers to transfer balances,
it will lead to a higher score than consolidating everything
into one credit line and max it out. Try to convert revolving
debt to installment 45 days (or more) before making a big
purchase like a home or auto.
* Becoming an authorized signatory on one or more of one's
parents' credit cards that they carry a balance on. If the
parents pay it responsibly, the authorized signatory's credit
score will benefit, whether he personally charges anything
to the card or not. This tip is especially useful for young
adults with little or no established credit.
* Keeping a balance on old credit cards, even if the interest
rate is high. The average age of one's credit lines is a factor
in the credit score. The older, the better. If a $0 balance
is carried on a credit line, eventually that credit line will
no longer show up on the credit report, so it is good to keep
at least a $10 revolving balance (i.e. don't pay the whole
thing off each time).
* Keeping an eye on how student loans are reported. Student
loans are notorious for being reported multiple times, making
it look like one's monthly payment obligations are higher
than they actually are.
* Avoiding causing too many inquiries to be made right before
applying for a big loan that depends on credit score. One's
credit score is affected by recent inquiries made by anyone
other than the individual, their insurance companies, and
certain others specified by law. When a person applies for
new credit, for instance, and the creditor checks the credit
report, that can cause a temporary dip in their score.
creidt, credti,
creidit, cerdit, redit
See:
• Credit
Finance
• Credit
History
• Debt consolidation
This article is licensed under the GNU
Free Documentation License. It uses material from the
Wikipedia
article "Credit Score".
Also see:
• Having
Trouble Getting a Loan? Ten Common Credit Mistakes
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