Knowing the Score

By Don Kuehn

It probably will never make the Top Ten list of great pickup lines at your local singles bar, but “What’s your FICO?” might be one of the more important questions prospective mates can ask each other, or a couple can ask themselves.

Most Americans don’t even know what credit scores are, much less how they can cost or save you big bucks when you take out a loan. Lenders, insurers, landlords and even employers are commonly using FICO scores in evaluating applicants.

The dominant credit scoring company is Fair Isaac Co., hence the moniker FICO. The three-digit FICO number (from 300 to 850) represents a snapshot of your creditworthiness. The higher your credit score, the lower your credit risk and the lower the interest rate you can get on mortgages, car loans and the like. A score in the upper 700s will get you the best rates; anything below 500 is pretty much the kiss of death for getting a loan.

Something like 11 percent of the population ranks above 800; 29 percent rank between 750 and 799. There are more than 30 million people in the United States with credit blemishes severe enough to score under 620, a level that most experts say makes it difficult to get loans or credit cards at attractive rates.

If you never paid much attention to credit scoring, look at this. The impact that FICO scoring has on a $150,000 fixed-rate, 30-year mortgage is shown in the accompanying table (rates change daily). Improving your FICO from 550 to a modest 720 holds a potential savings of $376 per month or more than $135,000 over the life of that 30-year mortgage.

Most of us know what a credit report is. It details your credit history, the types of credit you use, the length of time your accounts have been open and whether you’ve paid your bills on time. It tells lenders how much credit you’ve used and whether you've sought new sources of credit.

Your report also shows public information, such as bankruptcies, foreclosures, suits, wage attachments, liens and judgments.

FICO scores are based on your credit report. Whether you get yours from Experian, Equifax or TransUnion—the three major credit bureaus—you should review your report at least once a year. Scour it carefully for any mistakes and ask the bureau to remove any incorrect information. If you are planning a major purchase on credit, like a mortgage or car loan, give yourself at least six months' lead time and take the steps necessary to polish up your FICO score to save some serious money.

Here's the background you'll need to understand your FICO rating:

• The largest part of your score, about 35 percent, is based on your credit payment history on many types of accounts (credit cards, retail accounts, installment loans, finance companies and mortgage). Included are details on missed payments, including the four hows: how late, how much, how recent and how many. Recent history carries more weight than payments you may have missed several years ago.

Missing even one payment can knock 50 to 100 points off an otherwise good score; skipping payments on all of your bills for a month can devastate your FICO score. In these times of job loss and layoffs, it’s smart to be prepared for bad outcomes. Common advice is to have a rainy day fund of at least six to nine months’ expenses set aside to cover just these kinds of emergencies.

Some people find the best way to avoid late payments is to put as many of their bills as possible on autopilot. Many banks, utilities and mortgage companies are more than happy to debit your checking account monthly. Just be sure you have the checks covered to avoid overdraft problems.

• Thirty percent of your score is figured on how much you owe. Simply having a number of credit accounts and carrying balances on them does not necessarily mean you are a bad credit risk. However, owing a great deal of money in relation to your family income can indicate that a person is overextended and more likely to make some payments late or not at all.

Scoring also takes into account the amount of “headroom” you have between what you owe and the credit limit on your accounts or the original loan amounts. The closer you are to maxing out your accounts, the more trouble you are likely to have making payments.

If you are one of those people who think they can win free trips to the Riviera by buying everything on their credit cards, consider switching to cash and checks in the months before you apply for a mortgage, car loan or major furniture purchase. Passing up a few card miles will be more than made up for by a better FICO score and lower interest rates.

• About 15 percent of your score is based on the length of your credit history. The longer your history, the better your score will be. If you have been managing credit for only a short time, don’t lose your head and start opening a lot of new accounts. They’ll lower your average account age, which weighs negatively on your score if you don’t have a lot of other credit history.

The common advice used to be to close credit cards and revolving accounts you weren’t using anymore. In this age of credit scoring, that advice may not work for you. Shutting off a credit line by closing a dormant account reduces the total credit that’s available and makes the balances you have loom larger in your credit score calculations. Also, closing your older accounts shortens the length of your reported credit history and can make you seem less creditworthy.

• Another 10 percent of your score is based on new credit. Scoring looks at how many new accounts you have, how long it has been since you opened a new account, how many requests for credit you have made and whether you have a good recent credit history after a period of past payment troubles. Re-establishing credit and making payments on time will gradually raise your score.

• Finally, your score considers the mix of credit accounts you have. While it isn’t good or bad to have one of each kind of account—credit card, mortgage, installment, retail and finance company—the mix of accounts you have is telling only if your history is sketchy. How many accounts are too many will vary with different credit profiles.

The weapon of mass destruction in credit scoring is bankruptcy. It overpowers late payments, delinquencies or collection agencies knocking on your door. Bankruptcy can peel 200 points or more off your score. Once your score falls below 620, which is inevitable when a bankruptcy is on your record, it becomes very difficult and expensive to secure credit.

Several things are not included in your FICO score. These include your race, religion, national origin and marital status. Your age is not part of FICO, although it could be part of some other scoring systems.

Information that is not proven to be an indicator of future credit performance is ignored in calculating your score. Your salary, employer, occupation, title and employment history are not part of your score, but here again, lenders may consider this information independently when making credit decisions.

If you ever are turned down for credit, the Equal Credit Opportunity Act (ECOA) gives you the right to obtain the reasons why within 30 days. You also are entitled to a free copy of your credit bureau report within 60 days.

Although loan sharks (high-rate lenders) love recent bankruptcies because they know consumers are barred from filing again for at least six years, legitimate lenders usually reject people with a bankruptcy on their record, and it doesn’t drop off your record for 10 years.

If you want to know the score, go to www.myfico.com/ and use the “score simulator” to see how a wide array of actions can affect your credit numbers. You can see the effects of opening new credit card accounts, maxing out the ones you have or missing payments altogether. And, for a fee, you can order your credit score as well.

If you are just curious about what your score might be, there is a free FICO score estimator online at www.bankrate.com/brm/fico/calc.asp. All you have to do is answer 10 simple questions and the program, which is linked to FICO, will generate a range within which your real FICO score should fall.

Either way, good spending habits, smart use of credit and relentlessly paying monthly obligations on time will burnish your FICO score over time and make you eligible for the best interest rates and lowest down payments available when you do need to take out a loan. After all, it is your money.

So, dude, what’s your score?

To receive a copy of your credit reports, contact the big three credit bureaus:

• TransUnion, 800/888-4213 or www.transunion.com/
• Experian (formerly TRW), 888/397-3742 or www.experian.com/
• Equifax, 800/685-1111 or www.equifax.com/

If you find an error, the credit reporting agency must investigate and respond to you within 30 days.