The Fico Credit Score – What is It?

By Aldreena M. Ferebee

What is a FICO Score?

A credit or FICO score is a numeric representation of a person’s credit profile and it is the name for the most well known credit scoring system. The acronym FICO stands for Fair Isaac Company, a California firm founded in 1956 by Bill Fair and Earl Isaac.

History

The FICO score has been around for many years, then in 1995, the mortgage and lending business started using them for the primary purpose of keeping down the expenses associated with Home Equity loans. These scores are now used by Freddie Mac and Fannie Mae in conjunction with their automated underwriting systems. In 1996 the Federal Government insisted on using a credit score on all credit reports. The scores are based on years of computer modeling aimed at predicting who might be a credit risk. There has never been a published model of how the score is derived. The secrecy of the FICO model reduces the likelihood of manipulation. The FICO score is used by all three credit bureaus (Experian, Trans Union, and Equifax). The credit bureau's computers evaluates a complete credit profile and assigns a score that is used to estimate credit worthiness.

Purpose

Each bureau uses its own scoring system; each person being evaluated in the system will have 3 separate scores. When a person applies for credit and receives a high score, they are viewed as a better credit risk to lend money to than a person with a lower score. This rating system consist of several factors from your credit file that includes length of credit history, number of open accounts, loans, mortgages, and public records. The factors used are formulated to produce a 3-digit score between 300 and 950. If a person’s credit score is above 680, they are considered a “prime” or low risk in terms of the lender who wants to lend money, or the landlord who wanted to rent or lease to you. If your score is below 680, you are “sub-prime” and fall in the middle category in terms of risk of renting and leasing. It doesn’t mean you shouldn’t get a rental/lease, but you may be required to go a step further and provide a security deposit for the first and last month rent payment before a person moves in. Anything score below a 560 is considered a “shafted’ score and this person is not considered a good credit risk.

Elements of the FICO Score

The FICO model has 5 main elements:

1) Past payment history (about 35% of score) the fewer the late payments the better. Recent late payments will have a much greater impact than a very old Bankruptcy with perfect credit since.

2) Credit use (about 30% of score) Too many credit cards can bring down the score, however, closing these accounts can sometimes do more harm than good if the entire profile is not considered.

3) Length of credit history (15% of score) the longer the account has been open the better the score. Opening new accounts and closing seasoned accounts can bring down a score a great deal.

4) Types of credit used (10% of score) whenever a person uses a finance company account, it may lower the score. Bank or department store accounts are better accounts to be open.

5) Inquiries are (10% of score) multiple inquiries can be a risk if several cards are applied for or other accounts are close to maxed out. Multiple mortgage or car inquiries within a 14 day period are counted as one inquiry.

Other factors that affect your FICO score are:

Number of outstanding balances

Balances owed vs. credit available or high credit

Number of balances opened in the last 6 months

Too many revolving accounts

Too few revolving accounts

Excessive credit inquiries

Delinquencies

Too many accounts opened within the last twelve months

Short credit history

Number of 30, 60, and 90 day late payments

Public records that include; judgments, tax liens or bankruptcies

Length of credit history

Recency of any slow pay history

Balances on revolving credit are near the maximum limits

No recent credit card balances

Repairing your FICO Score

Now that you understand how the FICO credit score works lets look at how to improve your credit score. As you read above the credit bureaus use various components in order to get your credit score, this means that you will have to review these same components of your credit report in order to fix it.

- The first thing you must do to improve your credit score is fix the payment history category. Pay your bills on time, if you pay on time, creditors will not submit a past due report to your credit report. If you can’t pay on time, notify your lender that you need to work something out. Get current on past due accounts

- Keep low balances on your credit cards, stay well below your credit limit – 35% or lower is best. Don’t open new accounts just to lower your used credit ability – having too much credit is a risk too old accounts open if you’ve been a good borrower.

- If you have no credit start building your credit as soon as possible and when shopping for new credit, keep it all within a short time frame no more than 14 days or less. If a borrower has a bad history, they can improve their credit scores by opening a new account and managing it sensibly.

- Having installment debt (where you pay fixed monthly installments to eliminate the debt) is “better” than revolving debt or (open-ended credit card debt). Certain finance company debts (like buying a product with retailer financing) can lower your score. In long run, it will take time and discipline to improve credit scores.

In conclusion, your credit score can only be changed by the way that item is reported directly to the credit bureaus (Experian, TU, and Equifax). Fixing those negative factors in your credit report will raise your score. It is best to make these corrections before you try to purchase a home, because you can never be sure the exact impact a change will have on your score. When all negative factors are fixed, written confirmation from the creditor will be required to show the lender that your credit report is updated and all negative factors fixed and the way to do it follow this formula.

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