Credit Scores and Credit Limit Changes
Credit scores are influenced and change up and down to a number of attributes found in an individual’s credit report. The FICO credit score is the most common credit score used by lenders. In calculating credit scores, the FICO score is derived by analyzing the data in an individual’s credit report and will change as the credit report data changes.
A number of factors are weighed in a credit report to come up with the credit score. Factors include length of credit, payment history, amounts owed, amount of new credit, types of credit used and other factors.
One of the other factors used to determine the credit score is the amount of available credit in relation to credit outstanding. This is further analyzed by the proportion of credit lines used or the proportion of credit line balances such as credit card balances in relation to the total credit limits on certain types of revolving accounts. The FICO score considers the consumer’s credit limit to evaluate what is referred to as the credit utilization rate or how much available credit is being used at the time the score is calculated. The greater an individual’s credit utilization rate, the greater the risk that person will eventually default on a credit account.
Therefore it is reasonable to find two individuals that have fairly similar credit histories and payment patterns and one of these individuals has incurred a significant amount of credit card debt in relation to their available credit limits, while the other individual has relatively low credit card balances in relation to the available credit and the two scores will be different. The individual with the greater amount of debt relative to available credit is penalized for that position.
The credit utilization rate factor that goes into credit score models is why the common advice on credit card for consumers is to avoid running up one credit card to its maximum limit, rather it is generally believed that to maintain or improve a credit score, the credit card balances should be spread out among different cards and therefore reduce the relative amount of debt to credit limit or credit utilization rate per credit card.
With credit cards companies reducing their credit card exposure by dropping credit card limits on customer accounts, it is possible that these consumers are now finding their credit scores dropping as well. In a recent FICO score study, the company found that that approximately 20 percent of the U.S. population experienced a reduction in total revolving credit between October 2008 and April 2009. In general big reductions in credit limits will work the same as increases in the debt by reducing the amount of available credit and subsequently result in a negative impact on a credit score.
According to data from FICO score, the scores derived assess a lot of data and the effect of a single factor like a credit limit reduction on an individual credit score will depend on what other data is on the credit report and how much the credit card limit or line is reduced.
The key factors that impact the credit score in conjunction with a credit limit reduction, according to the folks at FICO score, include: the amount by which their credit limit is reduced, what actions are taken by the consumers in reaction to the reduced credit limit, such as, late monthly payments, changes in the account balances, or opening a new accounts, as well as any other changes in the individuals credit report after the credit limit is reduced.
The negative impact of the reduced credit limit is therefore substantially mitigated by either positive steps of the consumer such as reducing credit balances or financial missteps such as late payments. A credit limit reduction on a single credit card account won’t necessarily damage someone’s credit history or credit score. The final impact will vary depending on each person’s unique credit profile.
Different Credit Scores
When an individual obtains a credit reports from one of the credit reporting agencies or from all three, they will see that there is quite a bit of information to digest. With more than one credit report, most of the information will be the same but there will also be some information that is different. The differences in some data from one credit reporting agency to another helps to explain why credit scores would be different from different credit reporting agencies.
Unfortunately, while the different pieces of information in different credit reports may explain why credit scores may be different from one credit reporting agency to another it doesn’t explain all the differences. In addition, when a consumer orders either an annual free credit report or simply orders a credit report from one of the big three credit reporting agencies, a credit score is not automatically given.
The Fair Credit Reporting Act requires the credit reporting agencies to supply consumers with free copies of their credit reports upon request once every 12 months but the credit reporting agencies are not required to supply the credit score. Because the credit score is not actually part of the credit report, this is a piece of information that credit reporting agencies can still charge extra for.
Now, once a consumer receives a credit score, it is important to determine if it is a score that the majority of creditors and lenders will actually use or if it is a proprietary score that is not often used by other businesses or banks.
There is one credit score that is currently used by the majority of creditors and mortgage lenders that is also available to consumers and that is the FICO score. In cases where the credit score given does not indicate that it is a FICO score the chances are its some other type of score that the lenders and creditors may not e using and is calculated using a different method than a FICO score.
Most of the mortgage companies, banks and credit card issuers rely on the FICO score created by the Fair Isaac Corp. as do insurers, retailers, telecommunications providers, healthcare organizations, and many government agencies.
The three credit reporting agencies also calculate their own credit scores, plus many lenders have their own algorithms for calculating credit scores that can be used. However, the FICO score is still the leading score used and paying for other scores may be valuable to see how an individual score currently stands but is not the best score to help determine if someone may qualify for a mortgage loan or other form of credit extension.
Credit scores are not given out free with the credit report. You have to pay a fee to get the scores. You can obtain your credit score by contacting any of the three credit reporting companies, similar to ordering your credit report. However, you may have to pay for this score.
Your score may be calculated using a number of different scoring systems from different credit reporting agencies. You will find websites that offer a free credit report and free credit score, but the score may only be free the first time or requires a monthly membership fee along with the possibility that it is a proprietary score not used in the lending business. Before enrolling in any service be sure to determine what the costs are and what the service or website will actually deliver.
What are FICO Scores
FICO scores are one of several credit scores that are used by lenders, banks, insurers, credit card companies and other companies to measure consumer risk objectively. A credit score can be created by different companies based on information in a credit report, but FICO® scores are the most used credit bureau scores in the world. According to the Fair Isaac Corporation, the creator of the FICO score, more than 100 billion scores have been sold by the company and three out of four US mortgage originations are based on a FICO score.
Most credit bureau scores are often called “FICO scores” because most credit bureau scores used in the U.S. are produced from software developed by Fair Isaac Corporation. In fact, Fair Isaac Corporation or FICO pioneered the wide spread use of credit scoring models. The FICO score is available through all of the major consumer reporting agencies in the United States and Canada: Equifax, Experian and TransUnion. But not all credit scores retrieved or sold to consumers are FICO scores.
Credit scores, including FICO scores are derived from the data in an individual’s credit report. Different credit scoring models can be used by different companies. And there are different credit scores and credit score modeling programs available. There is some significance to the fact that the FICO score is the biggest and as of now has the greatest impact in credit related decision making. The FICO score is a mathematical algorithm that is made available to the three main credit reporting agencies in a software package.
Different credit bureau scores will evaluate a credit report differently and comparing the absolute numbers between different credit bureau scores is meaningless. A higher number from one company does not necessarily mean it indicates the borrower is less of a credit risk. FICO scores currently range in value from 300-850.
The credit score, whether it is a FICO score or another model, is used primarily determine a numerical valuation on the quality of credit risk an individual presents. Credit scores are designed to be a guide to future risk based solely on credit report data. All current credit score models, including FICO scores, evaluate the data in the credit report and quantify it with a number in which the higher the number or credit score, the lower the risk.
One bit of confusion that can arise within the lending industry over FICO scores is the different named scores that are actually developed by Fair Isaac Corporation. FICO scores technically have different names at each of the credit reporting agencies. All of these scores, however, are developed using the same methods by the Fair Isaac Corporation.
Like an individual’s credit, a FICO score will change over time. As your data changes within the credit report or through the credit reporting agency, so will the credit score since it is based on the data in the credit report.
It is also important to note that since each credit reporting agency will have similar but not identical information about an individual’s credit profile, therefore the FICO score or any credit score will be slightly different from each of the major credit bureaus, Experian, TransUnion, and Equifax. This all means that an individual will have three potentially different FICO scores, one for each of the three major credit bureaus.
Remember, regardless of credit score obtained, the score is based on the information contained in the credit report. To change a score, you have to change the underlying data the score is based on. Any information not found in your credit report is not used to calculate a credit score or FICO score.
Sample Credit Scores
Credit histories, credit reports and credit scores are key component of every individual’s financial health whether we like it or not. Unfortunately, too many consumers don’t know what the numbers of credit score mean for them. Have you ever obtained your credit report and credit score or been told about this number before and didn’t know what it means? The formula behind credit scores is a bit of a secret and credit reporting agencies can each assign you a different score. The good news is that credit scores have a range and if you understand what the ranges mean you can effectively evaluate your score.
Depending on who you read or which credit score you read, scores may go as high as 900 and as low as the 300s. A range of lenders use credit scores to facilitate lending decisions and every one of these lenders has their own guidelines for making loans and providing credit based on the borrower’s credit scores and other attributes used to make the credit decisions. There is no single credit score applied by all lenders that’s determined loan and credit approvals as well as the interest rates for the use of the credit.
With the recent tightening of credit, some report that what was rated as “good” may have changed a bit. What hasn’t changed is the higher your number the better. Here is what most sources that create the credit score models say about the ranges:
800-850 or more
This may be considered perfect credit. One caveat. If you have this number and no supporting credit history it is a meaningless score. People with a score in this range and a long history will get the best interest rates on everything. We all should strive for this.
720-799
Excellent credit. Most likely you get pretty much the same rates as those above this range. No worries here.
680-719
This is good but not perfect. Think of this as a being a “B” student. It makes sense to work a bit harder and get it into the ‘A” range. You will get approved for loans and credit cards but will you will pay slightly higher rates than those with excellent credit and you may be charged slightly higher premiums for auto insurance.
620-679
Good or okay credit. Scores in this range are fairly common so you should not despair. However, you may be getting charged more for credit and that is money you do not have to spend if you get your financial house in order. Even with good credit it always worth the effort to strive for perfect credit or a better credits score. The higher score, the more credit opportunities that will be available and the better the borrowing terms such as larger loan amounts.
580-619
No one likes to be “below average” and scores in this range are below average and may be teetering down a path to bad credit. People with these scores are considered “sub prime” and given the news of late, you know that is not good. In a tight credit market, if you have a score in this range you will have trouble securing financing and if you do the terms will not be good. Obtaining credit will not blocked but interest rates will be higher and credit conditions will be more restrictive. No question: get moving and improve your score.
500-579
Folks with a score in this range need to improve their credit and engage some form of credit repair. Most likely an account went to collection, became a charge-off, a mortgage went into foreclosure or bankruptcy was filed. Credit scores that fall this low will often have generally have a significant negative event such as a mortgage foreclosure or bankruptcy that involved numerous accounts or numerous accounts that have payment delinquencies. This is an indication of credit mistakes that can impact your financial life for years.
Below 500
There is no good news here. People with a score below 500 must make serious changes to pull themselves out of the financial situation they are in. In these situations, the credit score is usually impacted by both a significant negative event such as bankruptcy or foreclosure as well as having the vast majority of credit accounts paid past due.
The key to good credit begins with paying your bills on time and living within your means. It really is that simple.
What is in a Credit Score
The formulas for calculating credit scores are complex and are technically trade secrets of the credit companies that develop them. In developing credit scores, the companies that build the credit scoring models consider a wide variety of factors drawn from credit records. Credit scores only consider the information contained in your credit profile. They do not consider your income, savings, down payment amount or demographic factors like gender, race, nationality or marital status.
Although hundreds of factors may be created from credit records, those used in credit scoring models are the ones proven statistically to be the most valid predictors of future credit performance. Different portions of your credit file are given different weights. The factors and the weights assigned to each one can vary across evaluators and their different models, but the factors generally fall into four broad areas: payment history, consumer indebtedness, length of credit history, and the acquisition of new credit.
A credit score takes into consideration all these categories and the factors within the category, not just one or two. No one piece of information or factor will determine an individuals credit score. There is a general level of meaning to these factors but the importance of any factor depends on the overall information in an individual’s credit report. A credit score will be determined by both positive and negative information in a credit report. Late payments on credit accounts will lower a score, but having a good record of making payments on time will raise a credit score.
An individual’s payment history is the most important factor in determining your credit score. Missing payments or making payments late is a sure fire way to drop the value of a score quickly. Approximately 35% of the credit score is based on this category. Payment history includes payment information on many types of accounts. This may include credit cards, retail accounts, installment loans, finance company accounts, and mortgage loans. Payment history also includes public records and collection items such as reports of bankruptcies, judgments, suits, liens, wage attachments, and collection items.
The credit score model assesses the details on late or missed payments in an individuals payment history evaluate specific details such as how late they were, how much was owed, how recently they occurred, and how many there are. The number of late payments measures the number of accounts that were late and how many times late payments occurred per account. Closing a delinquent account or an account on which previously missed payments had occurred does not make the late payment disappear from a credit report and will still impact the credit score.
Approximately 30% of a credit score is comprised of an individual’s current level of indebtedness. Owing a great deal of money on a large number of accounts can indicate that a person is overextended. The measurement of being overextended gets slightly more technical by determining how much is too much for a given credit profile.
One key measure is to look at the current balances on existing debt compared to high credit and available credit. In addition to the overall amount owed, the score considers the amount an indivdual owes on specific types of accounts, such as credit cards and installment loans.
The next category covers about 15% of total credit score and this is the time credit has been in use. In general, a longer a credit history runs the greater the positive impact on the credit score. However, even people with short credit histories may get high scores, depending on how the rest of the credit report looks. The credit score will take into account how long specific credit accounts have been established, the age of the oldest account, an average age of all the accounts as well as how long it has been since the various accounts have been active.
Approximately 10% of the credit score is based on the evaluation of new credit opened and credit inquiries. The credit score looks at how many new accounts have been opened and the type of account, for example, how many new credit accounts are credit cards or perhaps a home loan. The score reflects how long it has been since an individual opened a new credit account. How many inquiries have been made into an individuals credit record or recent requests for credit as designated by the inquiries to the credit reporting agencies is also measured.
The final component of a credit score is the mix of credit accounts. The score will consider the different types of retail credit cards, other store cards and retail accounts, installment loans, revolving lines of credit, finance company accounts and mortgage loans open and used over time in the credit report. The score considers what kinds of credit accounts an individual has, and how many of each. Though the type of credit used in the past is factored in the credit score it is given the least attention.
No one single factor will control a credit score. How each of these factors interact to create a credit score from the credit report is the most important concept to focus on, not just each individual one. Your score only looks at information in your credit report, poor results or positive results are calculated based solely on the credit report data. Most credit scores range from 300 to 900, with the majority of people in the 550 to 800 range. The first step to improving a credit score is to find out what your credit score is. Once an individual’s credit score is obtained, then a consumer can take steps toward improving the data in the credit report that is used to determine the credit score.
The Basics on How to Improve Your Credit Score
Your credit report and your credit score are extremely important these days. Your credit score will stay with you wherever you go. Your credit score is going to come up when it is time to apply for a mortgage, apply for a car loan, or even to get a job. If you learn how to check your credit report and you know how to improve your credit score, you will be in better position to obtain lower interest rate loans and credit cards as well as have more financial opportunities than someone who isn’t. The simple keys to a good credit score include the following.
Pay your bills on time.
This is the key to good credit, plain and simple. The longer you pay your bills on time with no delinquent payments the better your score. If you pay some on time and others slip past 30 days, get organized and pay them all off on time. After just one month of this your score will improve. Keep doing it!
Check your credit once a year. Correct mistakes.
Review your credit report for any errors and correct glitches that may not be accurate. Reviewing your report once a year does not take much time and is free. This is good protection against identity theft, too. It is also a good idea to review your report a several months before you think you will be applying for a loan. If you do find a mistake if can take 30 days or longer to correct it.
Keep outstanding debt low debt low.
Try to use any credit accounts and your credit cards less. When you can, pay them off every month. Keep your outstanding balances in credit cards and home equity lines of credit as close to zero as you can. The bigger the difference between your total credit limits and the credit balance you carry, the better your score will be. A good rule of thumb is keep outstanding credit as a percent of available credit below 25% of your credit limit.
Pay off your debt – don’t move it around.
The ratio of your credit card balance to your credit limit is a key factor in your score. Closing out an account and transferring the balance to chase a lower interest rate will increase this ratio, which will lower your score. Instead of moving credit card balances to lower rate cards, try to pay them off. Call your credit card company and negotiate a lower rate instead. If the credit card is not cooperative it may well be worth any sacrifice in credit score to lower your credit card rate with a balance transfer.
Keep credit cards with a zero balance open.
You have a higher rating because of having the ability to access more money. Don’t close unused credit card accounts near a time you will be going for a new loan. Remember your score is based on formulas and one is the ratio of your credit limit to your debt balance. Closed accounts don’t really go away and will only raise the ratio. Contrary to what you may have heard, don’t close old, paid-off accounts.
Don’t open new accounts when applying for a loan if possible.
Avoid opening a lot of new accounts over a short period of time, especially if your credit history is relatively short to begin with. If you have a short credit history or very few accounts, opening a new credit line may lower your score since you don’t have a proven track record.
Use Your Credit
It is important to use your credit and pay everything off in full every month or at least quickly. This shows how you handle credit. Having it and not using it will not improve your score.
Remember: the better your score the more money you save by being extended lower interest rates when you borrow.
What Is a Credit Score
A credit score is a number that used by a great deal of lenders to help evaluate how likely an individual is to repay a loan or make credit payments on time. The credit score is the result of a method that represents a calculated measure of credit risk. The resulting score assesses the likelihood that a borrower will repay a loan or credit card on time. In general, lenders that make most any kind of credit decision such as granting credit cards or mortgage loans will look at an individuals credit scores as well as a variety of other information about the applicant to determine the interest rate or if credit will be approved.
The higher the score the greater the likelihood that an applicant will be approved for credit, possibly with a better rate than if they had a low credit score. Often, the lower your consumer credit score, the higher the interest rate you’ll be charged on credit cards, car loans, mortgages and other credit products. A credit score is very important because it can be a big determinant of an individual’s financial future regarding borrowing and related financial transactions. A good credit score can save a great deal of money with better loan terms and interest rates.
Credit score itself provides a numerical representation of a consumer’s credit at a point in time. An individual’s credit score is the result of a complex mathematical formula that takes into account numerous factors about the individual’s credit history. The most popular credit score is a credit bureau risk score that is based only on what is in a credit report. To determine the credit score, your credit report is scored against millions of other people’s credit reports, generating your consumer credit score based on the historical data. Computer programs process a consumer’s credit report and analyze those factors that have been found to predict creditworthiness. .
An individuals credit score, therefore is calculated using data contained in their credit report. A credit report is used as the raw data to develop the credit score, but does not contain a score by itself. Anytime information changes in someone’s credit report, the credit score will also change. If you have a short or incomplete credit history, it may not be possible to calculate a score.
Only the credit reporting agencies have the data needed to calculate a credit score. The score from each credit reporting agency considers only the data in your credit report at that agency. This is why an individual may have a different score from each of the credit reporting agencies.