It is amazing how little most American know about their credit score and how it is determined. The only time they even think about it is when they have been declined for some type of job, loan or credit card. The reality is that Americans have two numbers that follow them wherever they go; their social security number and their credit score.
Because of adverse economic factors created by the recent recession, credit scores are gaining more scrutiny from all types of lenders. Many individuals have experienced a precipitous drop in their credit score due to debt servicing issues.
In recent years, it has become more important for individuals to monitor their credit score due in large part to an increase in identity theft. By monitoring their score, people are able to quickly identify problems that may have occurred through identity theft.
What Do Credit Scores Mean?
If an individual is going to monitor their score, they need to have an understanding of what the score means and why it is so important.
Mortgage lenders, credit card companies, banks and even prospective employers will look at an individual’s credit score as a way of determining the person’s level of fiscal responsibility.
Lenders don’t want to make loans to people who don’t pay their bills. As for employers, they might see a person’s score as a reflection of their ability to manage their personal life as to not interfere with work.
With lenders, a person’s credit score will be used to determine two things; whether or the person qualifies for a loan, and what kind of lending terms the lender will extend to the borrower.
The net affect to a person’s cash flow can be hundreds of dollars one way or the other.
How Are Credit Scores Determined?
There are two primary types of credit scores that are used by creditors. The Fair Isaac Corporation (FICO) score is considered the most relevant by major lenders.
The score is determined by weighting five different variables (payment history, usage of available credit, years with credit history, number of credit inquiries and types of credit in use) in order to come up with a score. The score falls between 300-850, the higher the better.
The other common credit score is called the FAKO score. This is the score people will see when they subscribe to online credit score providers.
The FAKO score is calculated using slightly different criteria. The scores usually range between 280-900 depending on which reporting agency is being used.
While lenders may not use the FAKO score, the score is so closely related to the FICO score that it’s worth monitoring.
What Do The Credit Score Ranges Mean?
The credit score scale for FICO breaks down as follows:
- 300-629 = Bad Credit. Individuals in this range will have great difficulty qualifying for anything other than a secured credit card. If they are approved for any type of credit, the interest rates and fees will be astronomical. Note: Individuals with little or no credit will also fall into this range.
- 630-689 = Fair Credit. Lenders view people in this category as acceptable, but they may choose to offer terms that are reflective of slightly higher risk. In this range, people buying a home will most likely be required to come up with a higher down payment to help eliminate some of the perceived risk.
- 690-719 = Good Credit. Individuals in this range are eligible for most credit products, but may have a little trouble qualifying for elite credit cards or the lowest rates on loans.
- 720-850 = Excellent Credit. These individuals get the red carpet treatment on credit cards, car loans and mortgages. What is the highest credit score? The magic number is 850 and this individual is most likely wealthy and “living the life of Riley”.
There is one last thing to know. Regardless of a person’s credit score, lenders may choose to use other factors to determine a person’s credit worthiness. A person with bad credit might get approved and one with great credit might get denied. It is not an exact science.