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Your Credit Score
Your Credit Rights
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Your credit score is basically a summary of your financial history translated into a number on a scale from 300 to 850. The higher your score, the better your credit rating, meaning the better chance you have of qualifying for loans and competitive terms.
The most widely used scoring model in the United States and Canada is the FICO credit score. Developed in 1956 by a company called Fair, Isaac & Company (FICO), this model is designed to determine how likely you are to become 90 days late on any payment within the next twenty-four months. The model calculates the probability of loan delinquency by comparing patterns in your credit history against the credit patterns of millions of other consumers.
FICO makes all these comparisons with software that uses complex equations and advanced analytics to evaluate all the data in your credit report and distill it into a standardized, three-digit score.
But, let’s back up a minute. Where does all the credit re- port data come from?
Each financial choice you make – how much you spend on credit, how responsibly you pay down your debts, how many credit-related accounts you have, etc. – gets report- ed to three credit reporting agencies: Equifax, Experian, and TransUnion. When a lender orders a copy of your credit report, they also usually request the accompany- ing FICO credit score, which boils everything down into a single score based on that agency’s proprietary version of the FICO scoring model.
It’s important to note that while FICO works with the credit agencies’ data, they do not control the information in your credit reports. They just interpret the data they are given and translate it into the standardized score. So, to summarize:
• You make financial choices.
• The lending entities you interact with (banks, retailers, etc.) report your choices to the three credit reporting agencies.
• The agencies use the FICO software to turn your data into a single credit score, which is then delivered to the lender reviewing your application for credit.
It may seem like there are a lot of players and moving parts, but because the choices you make drive the entire process, ultimately you’re the one in control. In fact, recent statistics indicate that, given thirty days, more than 80% of loan applicants have the ability to potentially improve their credit scores.
As we’ve already discussed, lenders use credit scores to evaluate the risks associated with lending funds. Credit scores give lenders a simplified yet comprehensive and – most importantly – standardized and non-discriminatory way to assess the likelihood of whether or not a borrower will pay them back on time.
To put it more simply, your credit score helps a lender determine whether you’re “good for it” when it comes to borrowing money. In addition to helping a lender decide whether or not to lend you money, your credit score also affects the kinds of credit offers you receive and specific loan terms including your interest rate, required down payment, etc.
For example, let’s look at how different credit scores might affect a hypothetical homebuyer:
From a broader perspective, standardized credit scores have a positive effect on the entire lending industry for both lenders and borrowers by:
There isn’t a universal standard by which to evaluate a credit score as good or bad. Each lender sets its own criteria depending on its particular industry and business model. While one bank, for instance, might offer its best auto loan interest rates to people with a credit score of 690 or more, another bank may choose to set their minimum credit score requirement at 720.
To provide a baseline, Fair Isaac segments the scoring range into five broad categories:
When a lender is evaluating your credit score, they are actually looking at three different FICO scores – one from each of the three main U.S. credit reporting agencies. Each agency uses its own version of the FICO scoring model to evaluate their version of your credit history. Since each scoring model is slightly different and the agencies may also have slightly different credit data, your three scores may vary. To help them make the safest decision, lenders typically [do they look at the lowest score, an average of the three?]. This is one reason why it’s important to check your credit scores with all three agencies.
The FICO credit scoring model looks at five distinct aspects of your credit history and gives each of them a different “weight” or importance in your overall score:
• Payment History = 35%
• Amounts Owed = 30%
• Length of Credit History = 15%
• New Credit Inquiries = 10%
• Type of Credit Used = 10%
Before we review additional detail about these five categories of data, let’s take a quick look at where the data comes from and how it gets onto your credit report.
Your credit report is a summary of your credit-related activity. Each time you interact with a lender – a retailer, bank, credit card company, etc. – information about that interaction is recorded and sent to the three U.S credit reporting agencies. In addition to information about current credit-related transactions, your report also includes basic identifying and other financial information. In real world terms, here is a summary of the kinds of interactions and associated data that wind up in your credit history:
Identity Information: To verify that you are who you say you are, your credit report includes basic identity information such as you name (including maiden and married names), date of birth, and social security number. It also includes relevant contact and work history details such as current and previous addresses, telephone numbers, and employers.
Public Record Information: Publicly available information such as bankruptcy filings, tax liens, debt collection situations, legal financial judgments, and – in some states – delinquent child support payments are included in your credit history. Bankruptcy, paid tax liens, and the majority of other public domain information remain on your report for 7 to 10 years depending on the particular circumstance. Unpaid tax liens can remain on your report indefinitely.
Collections History: Any debts that have been set to a collection agency will appear on your credit report for 7 years from the date of your initial late payment (30 days late). It's important to keep a close eye on any collection items listen on your credit report. Some collection agencies engage in illegal tactics to try and keep collection accounts current. In other cases, a debt that has been sold to another collection agency will erroneously appear on your report twice.
Credit Account Information: Your report also includes a snapshot of all your credit accounts including the date each account was opened, its value (credit limit or total loan amount), the balance due, a history of monthly payments (covering several years), any information about co-signers or other responsible parties. Good credit history remains on the report indefinitely. Notions about late payments or defaults remain on the report for up to 7 years.
General Credit Inquiries: Each time someone asks for and obtains information from your credit report, that interaction shows up in your history. There are two types of inquiries- "hard" and "soft". Hard inquiries are made by lenders when you apply for new credit. Soft inquires are made when you request a copy of your report or when third parties like employers, landlords, or existing creditors request information as part of a credit check.
Rate Shopping Credit Inquiries: When you are in the market for a major loan--- auto, mortgage, or education--- multiple lenders will submit requests for your credit report. To ensure that these inquires do not affect your score, the algorithm doesn't factor in any such requests made during a typical rate-shopping period. (45 days)
How is different credit information factored into your FICO credit score?
Now that you have a sense of where all your credit history comes from, let’s take a look at how lenders organize that data into the five categories of information that influence your FICO credit score:
Payment History (35% of overall score)
Your payment history gives prospective lenders an indication of how responsible you are when paying down debts. Although your credit score will not plummet because of one or two late payments, keep in mind that your payment history is one of the most influential factors determining your credit score. Specific information that the FICO scoring model takes into consideration includes:
While these types of things are obviously serious, items that are older or relate to smaller amounts will weigh less heavily than items that are more recent or for larger amounts.
Amounts Owed (30% of overall score)
Length of Credit History (15% of overall score)
Typically, a longer, more established credit history will earn you a higher FICO score, but this doesn’t mean that a short credit history automatically leads to a lower score. Specific information that the FICO scoring model takes into consideration includes:
To a lender, a borrower who opens multiple new credit accounts in a short period of time looks like a higher risk, especially if the borrower has a relatively short credit history. While the FICO credit scoring model does make allowances for the wide variety of credit available today, it is still important to think seriously before you open any new accounts, especially if you’re in the process of applying for a major loan such as a mortgage. Specific information that the FICO scoring model takes into consideration includes:
New Credit Inquiries (10% of overall score)
It’s not necessary to have one or more of each type of credit (revolving, retail, installment or finance company loans, etc.), but the FICO credit scoring model does look at your overall credit picture and how your debt is spread out over different types of accounts. Specific information that the FICO scoring model takes into consideration includes:
Type of Credit Used (10% of overall score)
Even if you’ve had credit problems in the past, you can
still take steps to improve your future credit score. FICO scoring models weight items on your credit report based on how recently they appear in your credit history. In this way, though mistakes from your past remain on your report (usually for 7 to 10 years, depending on the type of item), they have less of an influence on your score the older they are. For example, here is how the negative impact of a major delinquency decreases over time:
|When the Delinquency Occurred||Negative Impact|
|In the past year||93%|
|1 - 2 years ago||60%|
|2 - 3 years ago||44%|
|3 - 4 years ago||33%|
|More than 4 years ago||22%|
In addition to knowing what information affects your credit score, it’s important to understand which factors do not influence your score. The following information is strictly excluded from all FICO scoring models:
By excluding these factors from the scoring model, FICO helps to ensure that lenders make impartial and non- discriminatory decisions that are based completely on the relevant facts. Even with these precautions in place, consumers should still take the time to learn about their basic credit rights. In the following section, we’ll look at some of the most important consumer protection legislation.
An educated consumer is an empowered consumer. There are a number of legislative acts and government agencies that help make sure your rights are protected. Familiarizing yourself with the basics of consumer credit rights will help you make informed decisions. The following section takes a high-level look at who can see your credit report, some key elements of the Fair Credit Reporting Act (FCRA), and the role of the Consumer Financial Protection Bureau (CFPB).
Although your credit report is not available to anyone and everyone, there are a number of instances in which it is legally permissible for you or a third part to access your credit report and the information contained therein. However, any time a third party wants to access your credit information, the accessing party must disclose to you that they are doing so. Further, if they take action based on what they see in your credit report, they must explain their actions and you are legally entitled to a free copy of the credit report that was part of their decision process.
Situations in which you or a third party may access your credit report:
The federal Fair Credit Reporting Act (FCRA) protects the
interests of consumers in credit affairs involving various kinds of reporting agencies (credit bureaus, credit reporting agencies, etc.) that sell personal information such as medical records or rental history records.
For a full description of all the rights defined by the FCRA, you can visit www.ftc.gov/credit, but here is a brief summary of the key elements:
You have the right to know what credit information is on your file.
You are entitled, with proof of identity, to one free “disclosure” (credit report) per twelve-month period from each of the three credit bureaus (Equifax, Experian, and TransUnion).
This disclosure is also provided free of charge if:
You have the right to know if you have been denied credit, insurance, or employment because of information in your credit file. If any information in your file has been used against you, the person or entity that has taken action against you is obligated to disclose to you the name, address, and phone number of the agency that provided the information in question.
You have the right to know your credit score. You may request a credit score from a consumer credit reporting agency, but there will be a cost associated with the request.
You have the right to dispute inaccuracies on your credit report. If you find information on your credit report that you believe to be erroneous, you have the right to ask the reporting agency to investigate the issue. The agency is obligated to investigate your dispute, contact the creditor on your behalf, and report back to you on the resolution.
You have the right to have inaccurate information on your credit report remedied or removed. If your dispute is verified and the information is confirmed to be inaccurate, the reporting agency is obligated to correct or delete the misinformation. In cases where the creditor does not respond within the allotted amount of time (usually 30 days, but sometimes up to 45 days), the information in question is considered “unverified” and will be removed from your credit file.
You have the right to an up-to-date credit file. Typically, consumer reporting agencies are not allowed to provide negative information that is more than seven years old. In addition, bankruptcies that are older than ten years should not appear on your credit report.
You have the right to know that only those with a valid need will be granted access to your credit information. The FCRA specifies that only people with a “valid need” may have access to your credit information. This usually refers to people or entities that are considering your application for credit, insurance, employment, rental, or some other related business.
You have the right to require your consent for the release of credit information to future or current employers. Consumer reporting agencies must have your written consent to release credit information to your current or potential employer. (Exception: In the trucking industry, written consent is not typically required.)
You have the right to remove your name and address from “pre-screened” offer lists. You may opt-out from unsolicited credit and insurance offers that you receive based on information in your credit report. The company extending the offer is obligated to include a toll-free number on the offer materials, which you can call if you would like to remove yourself from the list that drives these offers. You may also opt-out with the nationwide credit bureaus by calling 1-888-5OPTOUT (1-888-567- 8688).
If an agency, the person using credit information provided by an agency, or the person who has provided information to a consumer reporting agency violates any part of the FCRA, you may be able to sue in either state or federal court.
Established by Congress, the Consumer Financial Protection Bureau works to:
• Educate consumers so that they have a better information to make financial decisions
The CFPB protects consumers by:
• Writing rules, supervising companies, and enforcing federal consumer financial protection laws
• Restricting unfair, deceptive, or abusive acts or practices
• Fielding consumer complaints
• Promoting financial education, researching consumer
behavior, and monitoring financial markets for new
risks to consumers
• Enforcing laws that outlaw discrimination and other
unfair treatment in consumer finance
The CFPB helps ensure that consumers are not refused credit, discouraged from applying for credit, offered less favorable terms, or subject to account closure on the basis of race, color, religious affiliation, national origin, gender, marital status, age, or any other non-relevant attributes or affiliations.
You can learn more about this organization and the references and services they provide by visiting them online at http://www.consumerfinance.gov/contact-us/
Since your credit report and associated credit score can change at any point based on your credit-related activity, it’s a good idea to take advantage of the free annual reports (one from each of the three main credit reporting agencies) that you’re entitled to during any 12-month period. It’s especially important to take a look at your credit reports at least six months before any major purchase, like a car or home. This way, if you find any discrepancies or need to take steps to improve your credit score, you’ll have some time to get things taken care of before you’re applying for your loan.
You can easily obtain your free credit report copies by contacting the Annual Credit Report Request Service:
Annual Credit Report Request Service P.O. Box 105281
Atlanta, GA 30348-5281
It’s important to note that most lenders use the FICO credit score that is provided with the credit reports from the three main credit reporting agencies (Equifax, Experian, and TransUnion) when they are considering your loan application. The FICO credit score is not, however, the only credit score available; and this can create some confusion if you’re not sure what you’re looking at.
Many of the “retail” credit report offers directed at consumers (from companies like FreeCreditReport.com and similar providers) inflate the average consumer credit score by 40 to 60 points. If you read the fine print on these offers, it explains that the credit score they provide is for “educational purposes only” and is not the score that most lending institutions use to inform their lending decisions.
You should also beware of imposter websites that try to lure unsuspecting consumers into providing private personal information. These sites use names and URLs that are very close to the names and URLs of legitimate companies. Make sure you double check the credibility of the company you’re dealing with before disclosing any personal or payment information.
Finally, a few tips on protecting your privacy, online and off:
|Type of Information||How Long It Remains on Your Credit Report*|
|Chapter 7, 11, or 12 Bankruptcy||10 years from the date filed|
|Chapter 13 Bankruptcy||7 Years from the date paid|
|Chapter 13 Bankruptcy Not Completed||10 years|
|Bankruptcies Voluntarily Dismissed||7 years|
|Civil Judgments||7 years from the date filed|
|Unpaid Tax Liens||10 years (may vary by state)|
|Paid Tax Liens||7 years from date paid|
|Collections Paid or Unpaid||7 years from the date of the initial missed payment|
|Charge-off Accounts||7 years from the date of the initial missed payment|
|Credit Accounts||7 years from the date of the initial missed payment|
Once you have your credit reports, review them carefully to make sure there aren’t any items or pieces of information that are incorrect. Whether because of incomplete information, data entry errors, or identity mixups, errors do happen. Experts estimate that as many as 20 percent of consumers find incorrect information on one or more of their credit reports, and that correcting the errors can improve those individuals’ credit scores. Any incorrect, incomplete, or outdated data can be disputed. Some examples of the kinds of items you can dispute include:
The agency is then obligated to investigate the discrepancy. The FCRA grants the agency up to 30 days to respond, but since most agencies use automated systems to address such disputes, the turn around time is often much shorter. In addition, most agencies will make a special effort to expedite a resolution when the item in question is affecting a mortgage decision. When addressing an error on your credit report, you may be asked to send the credit reporting agency a letter of explanation and supporting documentation such as personal identification (including your social security card), proof of address (such as a utility bill or pay stub), and any other materials that may help the agency get to the bottom of your request. A few things to keep in mind when sending this information:
If a lender denies you credit, you can request to know the reasons why and they are obligated to provide you with an answer within 30 days. In addition, you are entitled to a free copy of your credit report within 60 days of being turned down. If your FICO credit score was a primary driver of the lender’s decision, the factors listed on your report as reasons for your score may help you determine where you need to make changes in order to qualify for future credit.
Identity theft is big business. Criminals steal your personal information (name, Social Security number, credit card or bank account numbers, etc.) and use it to make purchases, open new accounts, qualify for loans, and even get new jobs. Reviewing your credit report on a regular basis is an excellent way to detect identity theft since any activity attributed to you will show up on your report. If you see items on you report that indicate you’re a victim of identity theft, don’t hesitate to take action:
Sometimes, even after you’ve reviewed your credit report and dealt with any errors, your credit score will still be low. This can be frustrating, especially if you typically pay your bills on time and have a good income, but it’s because there are so many factors that go into calculating your score. To help you figure out which items are affecting your score negatively, each of the three credit reports includes a listing of “factor codes” that tell you the top four influencing factors on your score. These appear as a number or a letter followed by a brief description such as “delinquency on accounts,” or “too many accounts opened in the past 12 months.” Once you know what your trouble areas are, you can decide which measures you should take to get your credit in better standing. Over time, your intentional and proactive efforts can help you improve your score and your chances at more favorable credit terms.
To get you started, here are some tips for smart credit management. They are organized by the five areas that the FICO scoring model considers so you can more easily see how your financial choices relate to how you score in each area.
LENGTH OF CREDIT HISTORY
TYPE OF CREDIT
Don’t fall for silver bullet-fixes. When it comes to credit, slow and steady wins the race every time.
Though your credit is ultimately your responsibility, you don’t have to feel like you’re in this all on your own. There are many knowledgeable professionals who can provide you with valuable guidance and helpful insights. These experts have access to a wide array of credit-related tools, software, and services that can help you assess, analyze, and optimize your credit. If you’re in the market for a major purchase that will require a loan application, take advantage of these folks and their know-how. They will help you sort out any credit concerns and put you on the path towards an improved FICO credit score.
Good luck and good credit!