Pammila Phillis, CardRatings.com Staff Writer Posted
May 5, 2005 In a world where the fate of your
employment, housing, insurance rates, and ability to get a loan is
often based on how good your credit score is, it is important to
understand the various scoring systems and what steps to take to
improve your score.
It would be nice if everyone
used the same credit scoring system. However, multiple scoring systems
and models are used by potential employers, landlords, and lenders.
And, unfortunately, consumers only get access to a few of these
available scores, which generally donít even match the scores
creditors see. And since the mortgage industry does use other scoring
systems, what you see will not always be the same as what the lender
I recommend when purchasing credit scores that
you pick one system or product and stick with it (there are several
options currently available, including a couple of free credit score
offers that may be of interest). Donít try looking at
multiple scoring systems because there is no way to compare the two
when you donít know what the specifics are from one to the
next. And there is just no way of finding that information out either
since the credit scoring companies keep this information confidential.
demonstrate how scoring works letís look at the auto loan
model. An auto lender scoring system is going to look at all consumer
credit reports containing auto loan accounts. The scoring scale created
is based on this group of credit reports. They look at credit trends
prior to, during, and after the auto loan. When you apply for a loan
with them, they compare you to the sample group to see if your score
matches their requirements for a good auto loan customer. Every
industry has customized scoring systems that catergorize groups of
people which they use as a base to compare the scores of potential
Following are the basics of what is
shared with consumers. This is not all of the equation by any means,
but rather a guide for improving your personal scores with the hope
that it has the same affect on lender scores.
35% of your score is affected by your Payment History. For example,
late payments, collection, charge offs, bankruptcies, judgments, and
liens will hurt your score. And it is all time based. The older the
information, the less it contributes to your scores. Usually the two
most recent years hurt credit scores the most. Also, one type of
derogatory listing is usually not more harmful than another type. For
example, a five year old collection item will affect your score less
than a 30 day late payment a month ago.
of your score is affected by Utilization. It is better to have several
accounts with low balances distributed among them than it is to have
fewer accounts maxed out (at or near the credit limit). Use the
following equation to determine your utilization. Your
Current Balance / Your Credit Limit = Your Utilization Percentage The
lower the percentage the better and lower than 30% is recommended per
account. By far the fastest means for increasing your overall credit
score is either paying down debt or increasing your existing credit
limits to more than what you are actually using.
15% of your score is affected by your Established Credit History. The
longer you maintain open accounts with creditors the better. When
youíre first starting out this is not easy. One effective
method to establish credit is to be added as an Authorized User to
another personís established credit account. It is important
that this person has an account that has a long credit history, clean
payment record, high credit limit, and low balance. You also need to
check with the creditor to ensure they have a policy to report
authorized user accounts to all three major credit reporting agencies.
establishing these accounts, I recommend you turn over the extra credit
card to the owner of the account. There is no reason to be using this
account and you should respect the individual helping you out in this
Credit Tip! Authorized user accounts are a
great way to establish credit since you are not legally responsible for
the debt as would be the case with Joint or Co-Signer accounts. You
will eventually want to end your relationship with these accounts as
your own credit improves and as you apply for major loans like
mortgages. The reason for this is that mortgage lenders commonly make
the mistake of figuring these accounts in the debt to income ratios,
which can hurt your chances of getting approved for a
About 10% of your
score is affected by Credit Inquiries & New Credit.
Don't apply for credit unless you know you can get it or that you need
to get it because unnecessary credit inquiries are going to hurt your
scoresóespecially if your overall credit file is small to
begin with or you have bad credit history existing on the file.
Tip! When applying for credit, pull your own credit report first (this
is called a soft inquiry and won't hurt your scores). With your credit
report in hand, go visit local banks or credit unions. Show them the
reports and don't allow them to pull a credit report of their own
unless they can say for sure you will be approved. This way you save
unnecessary pulls on your credit report if they decline you. If they
say you are approved, then they will need to pull a credit report to
seal the deal.
The mortgage industry has the
following special rule for inquiries: all applications for credit
resulting in pulled credit reports within a 14 day period of time will
only count as one inquiry and will be suppressed from affecting credit
scores for 30 days. The auto industry also has a special
rule for inquiries: all inquiries will be suppressed from affecting
credit score for 30 days.
About 10% of
your score is affected by your Mix of Credit. Use different types of
credit (revolving, installment, auto, mortgage, etc.). Average
recommended revolving accounts is no more then 3 or 4 credit cards. If
you know you have too many revolving accounts, then it is a good idea
to open up an installment loan to extend the type of credit used. I
recommend no more then 2 or 3 installment loans.
how much these different factors affect your scores. And if you can get
more for your efforts by breaking smaller rules, then it may be in your
best interest to do so.
For example, having more
than 3 or 4 credit cards can be beneficial (mix of credit only accounts
for 10% of your score) if you have good utilization on the existing
accounts (utilization accounts for 30% of your score). Don't be afraid
to resort to trial and error to improve your credit!
remembering the advice your lender gives is useful for getting a loan,
but not always good for your credit scores. If they tell you to
consolidate and close accounts, be careful how you go about this.
Peopleís compliance with lenderís advice often
results in dropped credit scores because they are shrinking their
overall available credit limit versus balances. Remember you don't want
to hurt your utilization by consolidating and closing
The best advice is
Make financially sound
Go with companies which provide the best
Avoid personal finance companies
if at all possible. They usually charge higher rates then banks and
agencies sell many different scores produced by them as well as other
companies (Fair Isaac being one of the biggest). Here are the common
scoring systems each agency resells from Fair Isaac:
- Fair Isaac
Equifax Ė Beacon
Now it gets even more
complicated than this because each of these companies break the scores
down further into industry specific models. Each model is tailored to
meet a specific industryís needs based on key financial
information that affects their business. Examples include mortgage
lenders, personal finance companies, credit card companies, auto
dealerships, and insurance companies.
not mean you can't utilize your scores and build upon them. Each time
you view your credit scores, you will normally see negative items
listed that are hurting your scores. Focus on improving those
particular areas and check your scores regularly to monitor your
Finally, when monitoring your score, you
should give yourself a 50 point cushion to be on the safe side of what
a lender might see. Sometimes lenders will see a higher score
than you will, but not often.
Phillis has been a staff writer for CardRatings.com
since 2004. She has extensive knowledge about consumer credit issues
due to work-related experience involving credit bureaus and a keen
personal interest in the topic. She is also a moderator of the CardRatings.com
credit forum, which boasts over 28,000 posts.