November 10th, 2011 7:08 PM by Korene L Clopine-Seaman
Most people use credit to
make a purchase at some point in their lives, whether it's a big-ticket item
like a home or car or smaller purchases made on a bank or store credit card.
These lines of credit are extended to individuals based on a number of factors
that, when combined, determine your credit score. Understanding your credit
score may help you understand how to protect or even improve your score, which
can impact many areas of your life — not just your mortgage terms.
With credit so
enmeshed in everything that we do, it's surprising how few people realize what
goes into their credit score. Anyone who is interested in financing a home
purchase through a mortgage should have a solid understanding of what goes into
his or her credit score. In fact, even some employers are beginning to run
credit score checks on prospective employees.
A credit score is a numerical value calculated by a third party that describes
how likely someone is to repay a loan. Credit scorers look at a variety of
factors including past financial and borrowing history to determine the score.
Lenders then use this score to decide how safe it is to lend that person the
money they need.
How those scores are calculated depends on the rating system. Most people are
familiar with the FICO score. FICO is named for the Fair Isaac Corporation,
which was founded by an engineer named Bill Fair and mathematician Earl Isaac,
who developed their credit scoring system in the 1950s. It has since gone on to
be the gold standard of credit scores — and that should come as little surprise
given that Fair and Isaac were true visionaries for their time (Isaac even
experimented with artificial intelligence as early as the 1950s).
FICO scores range between 300 and 850 points, with the higher scores telling
lenders that a borrower is a low risk, and lower scores denoting a higher
credit risk. If your FICO ranks too low, you'll have a tough time finding a
loan, and if it's high enough, lenders might offer you competitive terms to
secure your business. To provide some perspective, the median FICO score for
U.S. borrowers in 2010 was 723.
The FICO credit scoring model is used by the three biggest U.S. credit
repositories, Equifax, Experian and TransUnion. For mortgage lending purposes,
if three scores are present, the middle score is used. If two scores are
present, the lowest score is used.
The factors that go
into your FICO score are:
Your payment history
on loans and other credit, as well as bankruptcies, delinquencies and past due
payments. Late payments, especially multiple late payments, can
seriously hamper your credit. Payment history constitutes approximately 35
percent of your FICO.
The number of accounts
you owe on and how much. Also, how close you are to your loan
limits is important. The amounts you owe impact roughly 30 percent of your
How long your various
credit accounts have been open and how long since each has seen activity.
The longer you have had credit, the more it helps your rating, especially if
you use that credit, so don't close out old accounts. Fifteen percent of your
FICO is influenced by the age of accounts.
Recently opened new
accounts. Applying for lots of different credit at the same
time will hurt your rating. That said, applying for various loans of the same
type in a concentrated period of time, such as a car loan, will not impact your
FICO as it denotes that you are shopping for a good loan. Newly opened accounts
affect 10 percent of your FICO score.
Types of credit used.
FICO scores also rate your ability to manage a mix of different types of
credit, such as a mortgage, student loans, car loans, credit cards and other
types of credit. This impacts about 10 percent of your FICO.
Remember, your score matters. Make sure to review your FICO early in the
process of securing a home loan. Ensure that none of the three credit agencies'
reports contain any errors, and appeal to have them removed if so.
Would you like to learn more about FICO scores and how they
relate to loan eligibility? I'd love to help. Please contact me via the
information on this message and I'd be happy to sit down and meet with you.
*W.J. Bradley is not a
credit counseling or financial advisement firm and this information is for
educational purposes only and is not to be taken as guidelines or guarantees to
improve your credit or financial situation or eligibility to secure a home