Thursday, June 15, 2006

"Credit 101" - PART 1

ABOUT YOUR FICO SCORE

Think about your credit report as a story about your
financial life, as told through your credit history.
This
has nothing to do with you personally. Everything is
there from the first credit card you got out of high
school to your cell phones to your most recent mortgage.
It all has a very telling payment history. Some
of it is good and some of it maybe not-so-good. Regardless,
it tells a lender what he needs to know about
you. It tells the lender how committed you have been
historically, to paying your bills, both big and small, on
time. It simply tells us how risky it is to loan you
money.
A FICO score is a credit score developed by Fair Isaac & Co.
Credit scoring. It is a method of determining the likelihood that
credit users will pay their bills. It helps lenders determine the
“risk” in granting you a loan. This method has become widely
accepted by lenders as a reliable means of credit evaluation. A
credit score attempts to condense a borrower’s credit history
into a single number. Fair, Isaac & Co. and the credit bureaus
do not reveal how these scores are computed and The Federal
Trade Commission has ruled this to be acceptable.
Credit scores measure the likelihood of default, so credit
scores are generated using factors that have been found to
predict credit risk. These factors are not weighted evenly and
several minor instances may indicate a higher risk than one
major, but isolated, credit problem.

There are five main categories of credit information
which impact your credit score:

1. Late payments, delinquencies, bankruptcies: Past
inability to pay on time will hurt your chances of getting credit
in thefuture. More recent problems will be counted more heavily
than those in the past.

2. Outstanding debt: The more debt one has, the greater the
risk that he or she will not be able to keep up with the payments

3. Length of credit history: With a short track record it is
harder for a lender to assess creditworthiness

4. New applications for credit (inquiries): Frequent credit
checks by lenders may indicate that a borrower is looking
to increase his or her amount of debt.

5. Types of credit in use: Some types of credit, including
credit cards, provide you with a credit line greater than the
amount you have already borrowed. The more credit available,
the greater the risk to the lender since a borrower
can easily increase their outstanding debt.

There are really three FICO scores computed by data provided
by each of the three major bureaus--Experian, Trans Union
and Equifax.
Most lenders use the middle of these three
scores. For example, if Experian gave you a 689, Trans Union
704, and Equifax 696, we would throw out the top score (Trans
Union 704), throw out the bottom score (Experian 689) and use
the middle score of 696 from Equifax. Your FICO score for the
purposes of our loan would be 696.

The bureaus don't all share the same data and thus all have
different scores. One bureau may list more accounts for you
than another, for example, and the differences (in types of accounts,
payment histories, credit limits and balances) will be
reflected in the score that bureau computes for you.
Because of those differences, it makes sense to pull and examine your
credit reports from all three bureaus before you apply for a
mortgage. Fixing errors in all three reports before you shop for
a loan is smart.

In the 2nd part of our series on "Credit Scores,"
we will discuss "Credit Score Myths."
Stay tuned, as Monday I will be continuing this series!

Feel free to contact me with any questions or to inquire about
how to get a free copy of your credit report!

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