Credit Score Information

What is the importance of your credit score?
What are some tips to maintain a high credit score?
How do you get your credit score?

What is the importance of your credit score?

People have become increasingly dependent on credit. Therefore, it’s crucial that you understand personal credit reports and your credit rating (or score). Here we’ll explore what a credit score is, how it is determined, why it is important, and some tips to acquire and maintain good credit.

When you use credit, you are borrowing money that you promise to pay back within a specified period of time. A credit score is a statistical method to determine the likelihood of an individual paying back the money he or she has borrowed.

The credit bureaus that issue these scores have different evaluation systems, each based on different factors. Some may take into consideration only the information contained in your credit report. The primary factors used to calculate an individual’s credit score are their credit payment history, current debts, length of credit history, credit type mix, and frequency of applications for new credit. Because the scoring systems are based on different criteria which are weighted differently, the three major credit bureaus in the U.S. (Equifax, Trans Union, and Experian) may issue differing scores for an individual, even though the scores are based on the same credit report information.

You may hear the term FICO score in reference to your credit score - the terms are essentially synonymous. FICO is an acronym for the Fair Isaacs Corporation, the creator of the software used to calculate credit scores.

Scores range between 350 (extremely high risk) and 850 (extremely low risk).

What is a Credit Rating?
In addition to using credit (FICO) scores, most countries (including the U.S. and Canada) use a scale of 0-9 to rate your personal credit. On this scale, each number is preceded by one of two letters: “I” signifies installment credit (like home or auto financing), and “R” stands for revolving credit (such as a credit card).

Each creditor will issue its own rating for individuals. For example, you may have an R1 rating with Visa (the highest level of credit rating), but you might simultaneously have an R5 from MasterCard if you’ve neglected to pay your MasterCard bill for many months. Although the “R” and “I” systems are still in use, the prevailing trend is to move away from this multiple rating scale toward the single digit FICO score.

What is Your Credit Score?
When you borrow money your lender sends information to a credit bureau which details, in the form of a credit report, how well you handled your debt. From the information in the credit report, the bureau determines a credit score based on five major factors:
                1) previous credit performance,
                2) current level of indebtedness,
                3) time credit has been in use,
                4) types of credit available, and
                5) pursuit of new credit.

Although all these factors are included in credit score calculations, they are not given equal weighting. Your credit rating is most affected by your historical propensity for paying off your debt. The factor that can boost your credit rating the most is having a past that shows you pay off your debts fairly quickly. Additionally, maintaining low levels of indebtedness (or not keeping huge balances on your credit cards or other lines of credit), having a long credit history, and refraining from constantly applying for additional credit will all help your credit score.

Although we would love to explain the exact formula for calculating the credit score, the Federal Trade Commission has a secretive approach to this formula.

Credit Is a Fragile Thing
Being aware of your credit and your credit score is very important, especially since you can harm your credit without even being aware of it. Here’s a true story of what can happen:

Paul applied for a travel reward miles card, but never received any response from the credit card company. Since it was a high-limit travel card, Paul just assumed that he’d been declined and never thought about it again. Over a year later, Paul goes to the bank to inquire about a mortgage. The people at the bank pull up Paul’s credit report and find a bad debt from the credit card company. According to the credit report, the company tried to collect for a year but recently wrote it off as a bad debt, reporting it as an R9, the worst score you can get. Of course, all this is news to Paul.

Well, it turns out there was a clerical error, and Paul’s apartment suite number was missing from the address the credit card company had on file. Paul had been approved for the card but never actually received it, and any subsequent correspondence didn’t get through either.

So the credit card company still charged Paul the annual fee, which he didn’t pay, because he didn’t know the debt existed. The annual fee collected interest for a year until the credit card company wrote it off. In the end, after jumping though several fiery hoops, Paul was able to get the problem rectified, and the card company admitted fault and notified the credit-reporting agency.

The point is, even though it was a small balance due (about $150), the administration error almost got in the way of Paul getting a mortgage. Nowadays, since all data goes through computers, incorrect information can easily get onto your credit report.

Reading Your Credit Report
Let's take on the fundamentals of the credit reporting system. From the big three credit bureaus, TransUnion, Equifax and Experian, to your rights under the Fair Credit Reporting Act, this article will help you navigate the credit report maze. 
 
The credit reporting agencies – TransUnion, Equifax and Experian (formerly TRW) are the three national credit reporting agencies that keep records on consumers. The reporting agencies work with lenders, creditors, insurers and employers to update and distribute your information to the appropriate institutions. Here's an example of how the system works:
 
When you apply for a new credit card the creditor requests a copy of your financial history from the reporting agencies. This causes a “hard inquiry” to be recorded on your credit report.  The creditor uses your credit reports and scores along with income and debt information to determine what rates to offer. You start to use the new credit card and the creditor reports your activities to the credit reporting agencies about every 30 days. The credit reporting agencies update your credit report as they receive new information from creditors or lenders. Your credit profile changes based on your financial activity. The next time you apply for a credit card or loan, the process repeats.
 
Your credit report – Your credit report is divided into six main sections: consumer information (address, birthday and employment), consumer statement, account histories, public records, inquiries and creditor contacts. When you open a new account, miss a payment or move, these sections are updated with new information. Old negative records will stay on your credit report for 7-10 years. Positive records can remain on your credit report longer. Not all creditors report to all three agencies and the agencies obtain their data independently so your reports from TransUnion, Equifax and Experian could be substantially different from each other. That's why it's important to check your three credit reports every 6-12 months to ensure that the information is accurate and up-to-date.
 
Correcting inaccuracies – Under the Fair Credit Reporting Act, consumers are protected from having inaccurate information on their credit reports. If you find an inaccurate record on your report, try contacting the creditor or lender associated with the mark first. These companies can usually correct the mistake and send an update to the credit reporting agencies. If you can't make progress this way, you can also dispute the inaccuracy directly with the credit reporting agencies. 
 
Working the system – Keeping your credit reports healthy will improve your credit scores and help get you the best rates on major purchases. We recommend that you check your credit reports every 6-12 months or at least 3 months before a major purchase in order to guard against damaging inaccuracies and identity theft. Routine check-ups along with paying your bills on time, keeping your credit card balances below 35% of their limits and correcting any negative inaccuracies will help you maintain a healthy credit profile.

What are some tips to maintain a high credit score?

• Make loan payments on time and for the correct amount or more.
• Avoid overextending your credit. Unsolicited credit cards that arrive by mail may be tempting to use, but they won’t help your credit score.
• Never ignore overdue bills. If you encounter any problems repaying your debt, call your creditor to make repayment arrangements. If you tell them you are having difficulty, they may be flexible.
• Be aware of what type of credit you have. Credit from financing companies can negatively affect your score.
• Keep your outstanding debt as low as you can. Continually extending your credit close to your limit is viewed poorly.
• Limit your number of credit applications. When your credit report is looked at, or “hit,” it is viewed as a bad thing. Not all hits are viewed negatively (such as those for monitoring of accounts, or prescreens), but most are.
• Credit is not built overnight. It’s better to provide creditors with a longer historical time frame to review: a longer history of good credit is favored over a shorter period of good history.

How do you get your credit score?

The importance of credit today is significant; overlooking this fact can be very detrimental to your financial health. Being aware of how your credit score is calculated is essential.  Below are some of the major sites you can visit to check your credit rating:

Equifax www.equifax.com
Trans Union www.transunion.com
Experian www.experian.com

If you have been denied credit, you can get a copy of your credit report free.  Otherwise, a small fee may be required. 

If you find incorrect information in your credit report, contact the credit reporting agency.  They are required to investigate the information within 30 days and delete the information if it cannot be verified.  Your rights are further described in the Fair Credit Reporting Act.