But for lenders, your score measures your financial trustworthiness. It’s based on your current credit record and credit history. It also measures risk lenders take by lending to you or assuming some financial obligation on your behalf. Sounds pretty reasonable, right?
Unfortunately, a single company, Fair Isaac Corporation, holds most of the control of a key component of your credit score. 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”. In other words, 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. Therefore 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 lenders and others looking to assess ability to manage money use FICO scores. And it plays a major role in whether you get to borrow from or go into some agreement with them. In addition, it helps determine your interest rate and/ or any additional contractual safeguards (for them).
Because it’s so widely used, you can now get FICO scores directly from some major banks and credit card companies. Or you can go to one of the major credit bureaus, Experian, Equifax, and TransUnion; each has its own unique FICO score. And banks and other lenders strongly rely on them as a measure of your creditworthiness. Again, it’s separate from your credit report.
So what goes into your credit score?
The Fair Isaac Corporation (FICO) uses things about your present and past credit history to help predict the future. Therefore, your past becomes a long-lasting measure of how you’ll handle money for many years to come. (You can find things that your FICO score is based on in your credit report from one of the major credit bureaus. Also you can go 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 who 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
Probably you already know that credit scores and credit history play a major role in whether you get that mortgage. And also they determine how much you’ll need to put down and pay in interest. But in other cases, companies use credit scores behind the scenes.
Some things your credit score might affect:
- 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 answer that more fully another time, but basically you can: (1) make sure you check your credit reports regularly; (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.
More articles you may find useful