You’ve probably heard the term “FICO Score” thrown around, but have you ever stopped to think about what it is, where it came from and why it’s considered the gold standard of credit scoring by many lenders?
The FICO® Score is a measure of consumer credit risk created by the Fair Isaac Company, which was founded in 1956 by engineer William Fair and mathematician Earl Isaac. They created a credit scoring system, which in the 1980s evolved to measure creditworthiness on a scale of 300 to 850. This is the model used to this day, with 300 representing poor credit risk and 850 reflecting an excellent credit profile. US lenders see FICO Scores as reliable indicators of credit risk and use them in over 90 percent of U.S. lending decisions, so it’s worth a deeper dive to ensure you understand them!
What does a FICO score measure?
Like other credit scoring systems, a FICO Score is used by lenders to assess your financial situation and the likelihood that you will repay your debt obligations in a timely manner. The higher the number on your FICO Score, the better the credit—and the greater the likelihood that you will not only be granted credit, but also secure favorable terms (e.g. lower interest rates).
Your FICO Score is based on a number of factors, each of which is weighted slightly differently. Payment history— i.e., your track record of paying bills on time—has the greatest impact on your score, since past conduct is often believed to be a reliable predictor of future behavior.
Lenders also want to see that you aren’t consistently using a sizable percentage of the credit available to you, as this can often signal that someone is financially overextended. The amount of credit you are using can significantly impact your credit score, so try to resist any unnecessary purchases that will max out your credit cards!
Beyond that, your FICO Score evaluates the length of your credit history—so be patient if you’re just starting out! As you establish a clear track record of paying your bills on time, your score is likely to improve. Lenders are also keen to see that borrowers have experience in successfully managing (and repaying) different types of debt, from credit cards to personal loans and mortgages.
What can harm my FICO score?
Of course, avoid missing any bill and loan payments. Note that some late payments tend to ding your credit score more than others. For example, a late mortgage payment will reduce your credit score more significantly and for a longer time period than a late credit card payment. Additionally, a person who is just establishing a credit profile may be penalized more for a late payment than someone who has a more extensive credit history, since the credit agency has less data to work with.
You may have also heard that hard credit inquiries, when you grant lenders permission to view your credit report, can ding your credit score. FICO research suggests that an individual applying for multiple credit accounts in a short period of time likely represents a higher credit risk, so it’s best to avoid multiple applications for credit cards and loans in a short time. Inquiries stay on your credit report for up to two years, so you might want to think twice before acting on that compelling store card pitch! Sure, 15 percent off your purchase now might sound great, but it could translate to less favorable loan terms when it really matters down the line.
Why do I have multiple different credit scores?
Now that many banks, credit card providers and account aggregators are happy to share your credit score with you, often for free, consumers enjoy greater visibility than ever into their own credit profile. However, it can be confusing to learn that you have a different score across various credit scoring agencies. Don’t sweat it too much, though—each credit agency has a slightly different model, and not all credit providers report activity to every single agency.
Additionally, FICO in particular offers separate versions of your score to different types of credit providers. They might tweak your score slightly depending on the industry requesting it. This means that they can offer a unique formula to say, an auto loan provider that is looking to learn more about your history managing prior car loans in particular.
The long and short of it? If you want to maximize your credit score to get the best mortgage options: make payments on time, keep balances low, maintain accounts for an extended time period and minimize new account openings. When you’re ready to embark upon your exciting homeownership journey, Simplist will be here to help you every step of the way. In the meantime, you can schedule a call with one of our licensed loan experts to understand more about your own credit score