Credit or FICO Scores

PART I. GETTING YOUR SCORE

 

There are three credit bureaus:  TransUnion, Experian, and Equifax.  They will provide you with copies of your credit report - for a fee.  They charge between $15-$30.  They will sell you a copy of your credit report and what your individual credit score with them is.  The problem with this is that for purposes of financing real estate lenders look at your mid - FICO score, not the high, not the low, but THE ONE IN THE MIDDLE.  What you want is what’s called a tri-merge with all three credit bureau scores.  Currently, only TransUnion offers this is at a price of $30.  The other bureaus offer all three scores, but bundled with other services and at a price of approximately $100/year. 

 

If you pull your credit report yourself, it will not report as an “inquiry”.  A single inquiry from a potential credit grantor can lower one's FICO score between 5-15 points; typically, it’s in the range of 5-7 points.  The reason for this is that as borrowers take on more debt their ability to repay diminishes.  Hence, when borrowers ask creditors to extend them new credit and the creditor “inquires” (pulls their credit report) about their credit, the credit scoring software views the borrower as potentially taking on more debt OR desperate to acquire new credit because they’re in difficulty with their present obligations.  At present, these inquiries stay on your credit for two years, and are difficult to get removed.  If you’re applying for a mortgage refinance or new home loan, you can apply for up to six home loans in a thirty day period before your score changes.  You can contact the credit bureaus at these phone numbers or web addresses:

  

Company            Phone            Web Address

 

Equifax          800 685 1111      www.equifax.com

 

Experian         888 397 3742      www.experian.com

 

Transunion       800 916 8800      www.transunion.com

 

 

BUT I HEARD YOU’RE ENTITLED TO A FREE CREDIT REPORT 

 

You are, if you’ve been turned down by a lender.  Here’s the catch: you’ll get a copy of your credit report alright, but usually with no scores on it.  Each of the three main credit bureaus licenses Fair Isaac’s system for generating credit scores.  Equifax calls the score based on this technology your FICO score, Experian, your Beacon score and TransUnion, your Empirica Score.

 

A MORE COST EFFECTIVE MEANS IS TO CONTACT YOUR MORTGAGE BROKER OR REALTOR AND ASK  THEM TO PULL YOUR CREDIT REPORT AND FURNISH YOU WITH A COPY.  THIS CAN BE DONE FOR AS LITTLE AS $11 FOR AN INDIVIDUAL AND $15 OR A MARRIED COUPLE.  REMEMBER THOUGH, THIS WILL CONSTITUTE A CREDIT PULL OR INQUIRY.

 

 

PART II.  UNDERSTANDING YOUR FICO SCORE
 

Now that you have it what does it all mean?  Your credit report is essentially a PERMANENT RECORD of your borrowing history and your FICO score is based on it.  The FICO scoring process is a computation derived from an algorithmic formula for credit risk assessment that was devised by the FAIR ISAAC COMPANY.  It is used by lenders because it is highly predictive of future payment risk.  IT WAS NOT (AS MOST PEOPLE MISTAKENLY BELIEVE) DESIGNED TO MEASURE YOUR CREDIT WORTHINESS, INSTEAD IT IS A MATHEMATICAL MODEL SPECIFICALLY DESIGNED TO PREDICT THE LIKELIHOOD THAT A BORROWER WILL HAVE A 90-DAY LATE PAYMENT WITHIN THE NEXT 24 MONTHS ON ANY CREDIT ACCOUNT and for this reason it's not as intuitive as one might surmise.  The model was based on the payment histories of over 1.5 million credit files.  The formula that was derived assigned different weights to a person's credit.  The three indicators that had the highest predictive value were RECENCY, FREQUENCY, AND SEVERITY, with RECENCY BEING GIVEN THE MOST WEIGHT.  This category was further divided and weighted such that:

 

                                                                                   

RECENCY

·  0 TO 6 MONTHS -- HIGHEST WEIGHTING

·  7 TO 23 MONTHS -- LESS WEIGHTING

·  24 MONTHS AND ABOVE -- LEAST WEIGHTING

 

There are 5 factors that determine your score:

1.  PAYMENT HISTORY:  APPROXIMATELY 35% OF YOUR SCORE

2.  OUTSTANDING BALANCES:  30% OF YOUR SCORE

3.  LENGTH OF CREDIT HISTORY:  15%

4.  PATTERNS OF CREDIT USE:  10%

5.  TYPES OF CREDIT IN USE:  10%

 

 

THREE TYPES OF CREDIT

 

In this last category there is INSTALLMENT CREDIT (e.g., auto and mortgage loans) and REVOLVING CREDIT (e.g., charge and credit cards) and there are “HIGH INTEREST” lenders (e.g., Beneficial Finance, The Money Store, Household Finance Company, etc.).  Be aware that revolving debt has a higher negative impact on a borrower's score than installment debt.  Having a “high interest” lender on your credit report actually hurts your score because lenders that charge high interest rates are viewed as “lenders of last resort” and the FICO scoring model associates a negative correlation with their presence.

 

WHAT ARE THE KEY FACTORS THAT MAKE IT LOWER?

 

Your credit report will list the factor codes, those items that contributed to the lowering of your FICO score, at the bottom of the page and they are listed in order of importance e.g., length of time accounts have been established, high account balances, high number of recent inquiries within, etc.

 

DON’T PUT ALL YOUR EGGS IN ONE BASKET!

 

The FICO algorithm looks at cumulative totals relative to a borrower's cumulative potential.  What this means is that, if for example, your total credit card debt is $10,000 and you have five credit cards with $10,000 credit limits on each, it's better to have this amount spread over the five credit cards with balances of $2,000 on each which constitute 20% of one's total available credit than to have it all on one card using up 100% of one's available credit and 4 other cards with zero balances.  The lower the percentage of debt to available credit the better, as it shows you are able to handle having credit available without running it up to the max.

 

PAYING OFF YOUR DEBTS AND CLOSING YOUR ACCOUNTS WILL NOT RAISE YOUR SCORE!

 

Remember that payment history is 15% of your score.  So, it is unwise to close accounts as you pay them off.  A better way to improve one's FICO score is to leave the accounts open and cut up the credit cards.  An even better way is to buy a few groceries or a tank of gas on a credit card every few months and pay the balance off or down.  This keeps the card from devolving into an inactive status, thereby further lengthening your credit and payment history.  As I said earlier, it’s not intuitive.

 

DIFFERENT STROKES FOR DIFFERENT FOLKS
 

Mortgage and automobile loan inquiries are treated differently.  If a consumer is shopping for a mortgage and several inquiries have been made in the previous thirty days, only one mortgage inquiry is considered in the score.  In the preceding 12 months only inquiries occurring more than 30 days apart are counted.  So a consumer could have a mortgage inquiry every 30 days for a year and it would only report as one inquiry for the year.  On the other hand, if the consumer has a mortgage inquiry every 31 days for the previous eleven months, all 12 inquiries would be credited against the score.

 

As alluded to a moment ago, there are different FICO models.  But the classic model has a range of scores from 300 to 850.  There are special industry scores like automotive scores that range from 200 to 900.

 

 

Credit Score Guidelines

 

720 AND ABOVE

 

With this high a score, lenders feel a borrower can walk on water, unfortunately many borrowers act like they think they can as well.

 

660 to 719

 

This is the realm of your basic "A paper" borrower.

 

620 to 659

 

Alt A or A- borrowers occupy this tier.  Slightly riskier, slightly pricier.

 

580 to 619

 

Solid sub-prime or "B paper" borrowers are in this range.

 

540 to 579

 

Approximate range of "C paper" borrowers.

 

500 to 539

 

Bringing up the rear, we have the "C-" borrowers.  They are reduced to taking whatever they can get.

        

Below 500

 

Well nigh impossible to find a lender who's interested in lending, short of the onerous terms and rates to be had via a hard money lender.  Even they will be uninterested in doing business with if you don’t have equity of 25-35% equity in your property.

 

 

FICO FACTOIDS:

·  720 is the median credit score (50% above, 50% below).

·  15% of the population are above 790.

·   5% are below 500.

 

THREE THINGS NEEDED TO BE CREDIT RATED:

1.  1 TRADE LINE (open at least 6 MONTHS).

2.   UPDATED WITHIN the last 6 MONTHS.

3.   A valid SOCIAL SECURITY # (It can't correspond to a deceased individual).

 

BANKRUPTCIES are of course undesirable and the three parameters that are focused on are:

1.  Recency.

2.  Percentage of trade lines put into bankruptcy.

3.  Number of inquiries after the bankruptcy.

4.  Post-Bankruptcy payment history.

 

COLLECTIONS are also bad and ironically paid ones are equally bad because of the recency factor.  So what is one to do if one is considering getting a loan in view of recency?  By paying a collection account, one is updating activity connected with the collection account and moving it into the "Most recent six month period".  Remember, late payments in the last 6 months are the worst.  The credit model doesn't care if the account is paid or unpaid.  It only knows if there is recent activity connected with the account.  Therefore, it's best to pay a collection off in escrow.

 

WHY IS THERE 1 OF ME AND 3 OF THEM?

 

The reason that the different credit reporting agencies have different FICO scores for borrowers is because not every credit grantor pays or deals with all three bureaus, consequently some bureaus have more info on a borrower than others.

 

EVEN LOAN OFFICERS AND REALTORS GET THIS ONE WRONG.
 

It is a common misconception that some late payments are worse than others.  Some consumers think a mortgage late is worse than a credit card late.  No, A LATE PAYMENT IS A LATE PAYMENT.  PERIOD.  The misunderstanding, I believe has arisen because lenders view mortgage “lates” as verboten.  The FICO model doesn't distinguish between the two.

 

LATE?
 

What constitutes a late payment?  THIRTY DAYS PAST THE DUE DATE CONSTITUTES A LATE.

 

WHAT YOU CAN DO TO ATTAIN A HIGH FICO

1.  HAVE 2 - 4 BANK CREDIT CARDS.

2.  PAY YOUR BILLS ON TIME.

3.  DO NOT CHARGE MORE THAN 30% OF YOUR CREDIT LIMIT.

4.  USE YOUR OPEN CREDIT CARDS AT LEAST ONCE EVERY SIX MONTHS.

5.  DO NOT CLOSE OUT CREDIT CARDS THAT YOU HAVE HAD OVER TWO YEARS.

6.  CHECK YOUR CREDIT ONCE A YEAR (THIS SELF CHECK INQUIRY WILL NOT LOWER YOUR SCORES).

7.  LIVE BELOW YOUR MEANS AND FORGET ABOUT COMPETING WITH THE JONES'.

 

OOPS!

 

Should you find an error on your credit report, a borrower may fill out a credit dispute form and file them with the credit bureau for investigation.  The three repositories are:

 

·  Equifax                     1-800-685-1111        www.equifax

·  Experian (TRW)       1-888-397-3742        www.experian.com

·  TransUnion Corp.    1-800-916-8800        www.tuc.com

 

Copyright © 2020 Rod Haase.  All rights reserved.