What is a Credit Score?
Credit scores are a single figure calculated by running credit report data through a complex mathematical formula. Essentially, the score is used by lenders to figure the likelihood that individual consumers will pay their bills. The bottom line for consumers: the higher your score, the better.
Each of the 3 major credit bureaus – Experian, Trans Union, and Equifax, has its own proprietary methodology, though all systems produce scores in similar ranges.
Why do lenders use Credit Scores?
- Speed: the retrieving of a credit score can be done in as little as 30 seconds.
- Consistency: the credit scoring models are similar for all consumers and financial institutions.
- Statistically Derived: for consumers who have handled credit responsibly they are rewarded with better rates. Those consumers who have lower scores are not necessarily denied loans, but may pay higher rates.
How is Your Credit Score Calculated?
Your credit score is calculated through a credit-scoring model. A credit-scoring model is developed using several criteria:
- Selecting a large sampling of customers.
- Analyzing the data in their credit reports to determine which factors relate to creditworthiness.
- Assigning a degree of importance to each of the factors based on how accurate a predictor it is in determining who will repay their loan on time.
This can consist of the following factors:
- Late payments
- The amount of time credit has been established
- The amount of credit used versus the amount of credit available
- Length of time at residence
- Negative credit information such as bankruptcies, chargeoffs, collections, etc.
A rough breakdown, according to Fair Isaac:
- 35% of the score is determined by payment histories on your credit accounts, with recent history weighted a bit more heavily than the distant past.
- 30% is based upon the amount of debt you have outstanding with all creditors.
- 15% is produced on the basis of how long you’ve been a credit user (a longer history is better if you’ve always made timely payments.)
- 10% is comprised of very recent history, based on your efforts to obtain loans or credit lines in the past few months.
- 10% is calculated from the mix of credit you hold, including installment loans (like car loans, leases, mortgages, credit cards, etc.)
How can you Improve Your Credit Score?
Because your credit score could mean the difference between getting a great rate on your next loan and getting denied altogether, it’s important that you manage your credit wisely. By so doing, you’ll improve your credit score. Some specific things you can do are:
- Pay your bills on time. Late payments and collections can have a serious impact on your score.
- Do not apply for credit frequently. Every time you apply for a credit an inquiry appears on your credit report, which can lower your score.
- Reduce your credit balances. If you are maxed out on your credit cards, it will negatively impact your score.
- If you have limited credit, obtain more. Not having sufficient credit can also negatively impact your score.
While your credit score is a key determinant of your creditworthiness, lenders also examine the information on your credit report and your loan application.
Regularly checking your credit report enables you to (at least annually):
- Be informed of the most up to date information in your credit history.
- Correct any inaccuracies thus ensuring that your credit data is a true depiction of your credit record and increasing your chances of receiving credit under the best possible terms.
Checking Your Credit Score
The Fair and Accurate Credit Transactions Act states that all consumers can receive a free credit report from each of the three major credit-reporting agencies every 12 months. The ACT becomes effective in different regions throughout this year.
The 3 major credit bureaus (Experian, Equifax, and Trans Union) have established one central website, telephone number, and mailing address to use for ordering your report. The credit bureaus will only be providing the free annual reports through this central location, not through their individual websites, telephone numbers, or addresses. If you request the report on-line, you should be able to view it immediately. Requests via telephone or mail will take approximately 15 days for processing.
Telephone (toll-free): 1-877-322-8228
Annual Credit Report Request Service
PO BOX 105281
Atlanta, GA 30348-5281