What is a Credit Score?

Couple in office signing contractual documentsA lender always wants to know 2 things before they know if they will approve your loan and what terms they will offer: your ability to repay the loan, and your willingness to repay the loan. For ability, they look at your overall debt in relation to your income. For willingness, they refer to your credit score.

The most commonly used credit scores – FICO scores – were developed by Fair Isaac & Company, Inc. These credit scores are named after their inventor! FICO scores range between 350 (very high risk) and 850 (very low risk).

Credit scores are calculated only from the information contained in your credit profile. They do not take into consideration your income, how much savings you have accumulated, your down payment amount, or any demographic factors like race, nationality, gender, or marital status. In fact, the reason credit scores were created in the first place is so that demographic factors would not be a consideration. “Profiling” is an unacceptable practice both before and after FICO credit scores. Credit scoring was created to provide an objective way to consider only relevant factors to somebody’s willingness to repay a loan.

Late or slow payments, defaulted loans, current amount of debt, length of credit history, types of credit and number of inquiries are all factors in creating your credit score. Your score is affected by both positive and negative information in your report. Late payments can lower your score, but establishing or reestablishing a good track record of making payments on time can raise your score.

Different aspects of your credit history are given different weights in calculating your credit score. About 35% of your FICO score is based on specific payment history. 30% is current level of indebtedness. 15% is the time your open credit has been in use (10 year old accounts are good, 6 month old ones are not). 15% is the types of credit available (installment loans such as car loans and student loans vs revolving accounts like credit cards). Finally, 5% is the pursuit of new credit — the number of credit inquiries.

In order to have a score, your report must have at least one account that has been open for 6 months or longer, and at least one account that has been updated in the last 6 months. This is to be sure there is enough data in your report to provide an accurate score. If you do not have a credit score, you may need to establish a credit history prior to applying for a mortgage.


How Can I Improve My Credit Score?

It’s almost impossible to change your score in a very short time. So it is important to check your credit before you begin to shop for a home. So the short answer is, you really can’t fix your score in the next few days in order to purchase a home. But there are strategies you can apply to make sure when you are ready to make application for a mortgage your score is as high as possible.

Approved mortgage applicationMake sure that the data at each of the 3 credit reporting agencies is accurate, consistent and up to date. You should order a copy of your credit report about once a year, and dispute any inaccuracies with the bureaus.

Note: Theoretically, if a series of credit reports is requested on your behalf during a limited amount of time, your score can go down until time passes without inquiries. Changes in the law have made credit reports requested by the consumer impact the credit score less. Also, a group of requests in relation to getting a mortgage or an automobile loan is not treated the same as a number of credit card requests in a limited time. The credit bureaus realize that smart people request their own credit reports to check for fraud or inaccuracies, and smart consumers shop around for the best rates on mortgages and car loans.

Credit card solicitations in the mail, even when they say “pre-approved”, do not count against your credit score, so don’t worry.

The 2 main factors creating your credit score are your payment history and the amounts you owe. In addition, bankruptcy filings and foreclosures can significantly lower your score, and can remain on your credit report for up to 10 years. Therefore, don’t take on more than you can handle.

Late payments work against you. It’s extremely important to pay bills on time, even if it’s only the minimum monthly payment.

Don’t run up your credit lines and credit cards to the maximum limit. Since the balance on your open accounts is a factor, lower balances are better. It’s said that by carefully managing your credit, it’s possible to add as much as 50 points per year to your score.