Your credit score serves as a measure of your financial trustworthiness, based on your current credit record and credit history. For a lender, it’s also a measure of the risk they take by lending to you or assuming some financial obligation on your behalf. Pretty reasonable, isn’t it?
Unfortunately, the control of this number, essential for so many things in life, is mostly held in the hands of a single company, Fair Isaac Corporation. According to their website, their “FICO” score is used directly or as part of another company’s customized calculations by 90% of all businesses that use credit scores. A lot of power in the hands of one company.
What exactly is a Credit Score?
A credit score is a measure of your personal “credit risk”, how likely you are to be able to handle and repay debt. As I say in another article about credit terms, a credit score is:
“A numerical value developed to make it easy for lenders to see how credit worthy you are. At the moment, a company called Fair Isaac Corporation has 90% of the credit score business, meaning odds are your lender either uses their number directly or as part of their own formula. It’s not the same as a credit report.”
So basically, there is a number (your FICO score) that lenders, or other people looking to assess your ability to manage money, use to decide whether to do business with you, i.e. let you borrow from or go into some agreement with them. It also helps determine your interest rate and the need for any additional contractual safeguards.
You can now get your FICO score directly from some major banks and credit card companies or by going to one of the major credit bureaus, Experian, Equifax, and TransUnion. Each bureau has a unique FICO score calculated to meet their own criteria, providing a creditworthy measure that banks and other lenders rely on. Again, it’s separate from your credit report.
What goes into your credit score?
The Fair Isaac Corporation (FICO) uses things about your present and past credit history to help predict how you would handle money in the future. (You can find actual details your FICO score is based on in your credit report from one of the major credit bureaus or by going to the free federally approved service, Annual Credit Report.com)
The basic criteria used to determine your FICO score, in descending order of importance, are:
- Your payment (timeliness) history
- What you currently owe (especially compared to available credit)
- The length of your credit history
- The types of credit you’ve used and managed
- New credit (too many new accounts not good)
- Any other credit-related events, such as bankruptcy
NOTE: No one lender has the same exact formula for deciding whom they lend to. One lender may take the same information available about you and come to a different conclusion than another lender.
Kinds of things that may be affected by your credit score
While in some cases, such as when you apply for a mortgage, it’s pretty obvious that your credit score and credit history play an important role in whether you get that mortgage — and, if you do, how much you’ll need to put down and pay in interest. In other cases, it’s done behind the scenes.
Here are some things you may or may not know where your credit score might play a significant role:
- Mortgages / home equity loans
- Personal loans
- Business loans
- Car loans
- Car leases (they probably don’t tell you how it affects the terms)
- Student loans with private lenders (NOT government loans)
- Car insurance
- Home / renter’s insurance
- Renting an apartment (in landlord’s eyes bad credit = bad tenant; not always true of course)
- Employment (while not legally able to ask for your precise credit score, they can access your credit reports with your written permission according to the Fair Credit Reporting Act. Your total rights will depend on the state you live in.)
NOTE: Not all states allow insurance premiums to be based on your credit score. If you’re curious, you can check with your state insurance department.
Did any of that surprise you?
When I bought my first renter’s insurance policy, I never realized that the price I paid, my premium, not only reflected the safety of the building I lived in, but my own financial record. Sneaky, huh?
It’s amazing how much of our lives, including credit history, is available to businesses we deal with. Bad credit or no credit can close a lot of doors — including doors that could help us get out of the very same financial situation that is blocking us.
What can you do? I’ll be writing a post at another time to answer that more fully, but basically you can: (1) make sure you check your credit reports; (2) look to clean up anything you can; and (3) when it comes to employment, know your rights and be prepared to talk about what you’ve done to turn things around – and your strong determination to keep that going.
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