Turn on the television. Surf the Internet. Glance at a newspaper. Chat with friends at a coffee shop. No matter where you go or what you do, you can’t get away from hearing about the credit crisis going on in the United States. Homeowners with adjustable rate mortgages face tough times when the arm drops and rates soar. Americans looking for general financing for a new home, car or credit card are running into a tight loan market.
That’s where the credit score comes in to play. All consumers need to know some basic facts on credit.
The US has three major credit reporting agencies – Equifax (EFX), TransUnion (TU) and Experian (XPN). These bureaus collect and collate individuals’ personal financial data from financial institutions with which they have a relationship in order to determine a person’s credit risk. Each agency has its own way of determining a person’s credit score but the most common score used by lenders is the FICO Score (named after the Fair Isaac Corporation).
The FICO Score is a number based on a statistical analysis of a person’s credit report and is used to represent that person’s “creditworthiness,†or likelihood that the person will pay his or her debts.
Here is the breakdown of how different types of debt affect a person’s FICO Score.
Figure 1 www.fico.org
Consumers should focus most of their attention on how much they owe and how they pay. These two parts make up 65 percent of the credit score, and by paying down debt and paying on time, a person can dramatically increase his or her credit score.
Secondarily, individuals should hold onto the credit they’ve had the longest because length of credit makes up 15 percent of the credit score. If an individual has a credit card or a mortgage that shows a positive payment history, then that line of credit is more valuable than brand new credit lines.
The credit reporting agencies and credit card companies thrive on consumers’ ignorance. Understanding how debt relates to credit is the first step in achieving the best score possible.
Douglas Muir, CEO
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