Understanding Credit Scoring

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Your credit score it is one of the most critical factors with your financial life. It determines if you are planning approved for a loan or credit line. A credit score is a mathematically calculated number developed by the Fair Isaac Corporation (FICO) that lenders use to rate potential customers in determining the possibility that a customer will pay their bills on time. A credit score or credit standing is determined by using five main criteria as defined by MyFico.com: your payment history which is the reason 35% of your credit score, the amounts owed which is the reason for 30% of your credit score, the length of your credit history which is the reason 15% of your credit score, new credit which accounts for 10% of your credit score, as well as the types of credit used which is the reason 10% of your credit score.

Payment history shows a brief history of how you paid your expenses either on time or late unfortunately does not show if your bills were paid prior to due date. Amounts owed shows just how much of credit available to you. If your balance is close to the credit limit this may lower your credit score. The length of history indicates the length of time you have had credit. In case your credit history is 24 months or less could decrease your credit score. New credit indicates how often you have applied for new credit. Should you open two many new accounts within a short period of time this may lessen your credit score. The types of credit used indicate the types of accounts you have like revolving or installment accounts. Revolving accounts are generally credit cards and installment accounts usually are mortgages, auto loans, etc.

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The FICO credit standing model ranges from 300-850 with 850 being an excellent score and 300 is the worst score. The greater the credit score the lower a person's eye rate you will receive for a financial loan or line of credit. Developing a good credit score can save you thousands of dollars in interest within the life of the loan or credit line. A good credit score is generally within the range of 660-749 but may differ from lender to lender.

The three major services Experian, Equifax and TransUnion use the FICO credit standing model. Equifax uses the Beacon credit rating, Experian uses the Fair Isaac or Plus score and TransUnion uses the Empirica score. Each credit agency subscribes to the Fair Isaac's FICO label of scoring and then integrates their own version of a consumer's FICO score. The Equifax Beacon score ranges from 340-820. The TransUnion Empirica score varies from 150-934. The Fair Isaac or Plus score varies from 330-830.

When applying for credit or a loan if the 3 credit scores are pulled, the very center score is generally the score used in combination with the application, but based on the Fair Isaac Corporation 75% of home mortgage applications use the Fair Isaac or Plus score.

Your credit rating varies from each bureau because each agency collects their unique data from various sources and may collect different data for a similar account. Your score can vary anywhere from 5-40 points relating to the three credit bureaus. To your credit rating changes due to updates for your credit file which changes determined by account activity such as balance changes or addendums to your credit file (i.e. new accounts or deletion of older negative accounts greater than 7 or 10 years old). As a result, you may even see a difference in your score from one month to the next.

The subsequent criteria are not included in calculating your credit score:

1. If rent or you own a home

2. Income

3. Amount of time at your current job

4. Period of time at your current address

5. Whether you are denied credit

However, the above may be considered in approval to borrow money in addition to using your credit score.

If you have a low credit score here are 5 things you can do to enhance your credit score:

1. Stop using your credit cards and pay with cash.

2. Pay more than the monthly minimum. Folks who wants, it's time to cut spending.

3. Build a plan to reduce your total debt.

4. Reduce your interest rates, but watch out for the fine print--a charge card with 0% interest might you thousands in interest for a way the credit card is structured.

5. Get a part-time job in addition to your full time job or find solutions to reduce expenses and use the additional money to pay down debt.

The most important disadvantage of credit scoring could it be relies on information inside your credit report which may contain errors. It's estimated that 75% of credit reports contain at least one error. That's why it is so important that you check your credit file at least once a year to ensure that all information is accurate and as much as date.

If you plan on investing in a large item like a car, house or investment property, it is best to pull your credit yourself to see if any negative items appear in order to fix those troubles before applying for a loan. The best way to understand your credit score would be to do research and read the data that is provided if you order your credit report.