Save Ten’s of Thousands
by Improving Your FICO Score
Although the exact formulas for calculating credit scores are closely guarded secrets, the Fair Isaac Corporation (FICO) has disclosed the following components and the approximate weighted contribution of each:
- 35%-punctuality of payment in the past (only includes payments later than 30 days past due)
- 30%-the amount of debt, expressed as the ratio of current revolving debt (credit card balances, etc.) to total available revolving credit (credit limits)
- 15%-length of credit history
- 10%-types of credit used (installment, revolving, consumer finance)
- 10%-recent search for credit and/or amount of credit obtained recently
The above percentages provide very limited guidance in understanding a credit score. For example, the 10% of the score allocated to "types of credit used" is undefined, leaving consumers unaware what type of credit mix to pursue. "Length of credit history" is also an ambiguous concept; it consists of multiple factors — two being the oldest account open and the average length of time an account has been open.
Although only 35% is attributed to punctuality, if a consumer is substantially late on numerous accounts, his score will fall far more than 35%. Bankruptcies, foreclosures, and judgments affect scores substantially, but are not included in the somewhat simplistic percentages provided by Fair Isaac.
Current income and employment history do not influence the FICO score, but they are weighed when applying for credit. For instance, an unemployed individual with no other sources of income will not usually be approved for a home mortgage, regardless of his or her FICO score.
There are other special factors which can weigh on the FICO score.
- Any monies owed because of a court judgment, tax lien, or similar carry an additional negative penalty, especially when recent.
- Having more than a certain number of consumer finance credit accounts also carries a negative weight (critics say that this causes a vicious cycle, locking people into continuing to use consumer finance companies).
- The number of recent credit checks also can weigh down the score, although credit agencies usually claim to allow for credit checks made within a certain window of time not to aggregate, so as to allow the consumer to shop around for rates.
Because lenders check your score, it is important to see how lenders see you. It’s easy to check your own FICO score and find out specific steps you can take to improve it. To start, you can order your FICO score through online services developed by Fair Isaac, in partnership with credit reporting agencies. These score delivery services give you all the information you need to understand your score, the information it’s based on, and steps you can take to improve your credit health.
An important time to check your score is six months or so before you plan to make a major purchase, such as a car or home. This will give you time to verify the information on your credit report, correct errors if there are any, and improve your score if necessary. In general, any time you are applying for credit, taking out a new loan or changing your credit mix is a good time to check your FICO score.
Why Improving Your FICO Score is a Must
Improving your FICO score can help you:
- Get better credit offers
- Lower your interest rates
- Speed up credit approvals
The payoff from a better FICO score can be financially substantial. For example, with a 30-year fixed mortgage of $150,000, you could save approximately $131,000 over the life of the loan-or $365 on each monthly payment-by first improving your FICO score from a 550 to 720.
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