What is a FICO score, and what does it mean? Your complete FICO score guide.
Have you ever wondered exactly what a FICO score is and what it actually means? If so, this article is for you. Let’s take a look at this and drill down on it.
FICO stands for Fair Isaac Corporation, and it was first used in 1989. The concept behind the FICO score is to help lenders, in a standardized way, interpret an individual’s credit report and decide whether they want to give you a loan or not.
So this begs the question, what is the difference between a FICO score and a standard credit report? The way it works is that the FICO score is basically a summary of your entire credit report. On a regular credit report, ALL of your credit history is listed. Good credit goes back ten years, and any negative credit is recorded for seven years. Any lines of credit you have, whether they are auto loans, credit cards, department store cards, mortgages even unpaid doctor bills, will show up.
The FICO score is a number that represents your overall credit, including the good and the bad.
So basically, there are five key facets that make up your FICO score. And they are:
35% of your score is made up of your payment history, meaning how current you are on your payments, if you were late, how many times, etc.
30% of your score is made up of the amount of money you still owe on your accounts. That means how much you owe on your mortgage and car loan as well as your credit cards and department store cards. The lower the amount of activated credit you have, the better.
15% of your FICO score is based on the length of your credit history. When you have longer credit lines like credit cards, it's best to keep them open and paid off. Just charge a couple of times a year on it and then pay it off, and that will look better on your FICO score. Doing so will be to the benefit of your FICO score.
10% of your FICO score is made up of new credit. Anything opened up in the last two years falls in this category. And the worse you’ll look to potential lenders, the more applications you have filled out in the previous 24 months. As these actions move past the two-year mark, they will have a lot less impact on your FICO score.
10% of your FICO score is based on what is called your credit mix. A nice blend of a mortgage, a car loan, and a few credit cards looks solid. However, certain types of loans, like payday loans, look much worse. Payday loans look desperate to most potential lenders.
So how would you go about getting your FICO score? Your credit card company can help you get your score. There are numerous other sources, some that cost money and some that are free. If you have an American Express card, you can go to their website and check your FICO score at any time.
If you want a copy of your complete credit report from the BIG THREE credit reporting agencies, including Experian, Equifax, and TransUnion, federal law allows you to receive one from each bureau free of charge once per year. Because of the COVID-19 pandemic, a special mandate is in place that allows you to get a free report once per week through April of 2021.
Despite the myths surrounding it, your credit score does not go down when you check it yourself. Inquiries CAN reduce your credit score but only certain kinds of inquiries. There are two types; Soft Inquiries and Hard Inquiries. Let me explain these two types of inquiries.
A soft inquiry is when either you check your credit yourself or if a potential lender checks it in an effort to pre-approve you for a line of credit. A hard inquiry happens when a potential lender checks on your credit to see if you will meet their criteria. This occurs when you are trying to get a mortgage or perhaps a new credit card. Each one of these hard inquiries will lower your score slightly.
So how can you go about improving your FICO score?
Unfortunately, there is no fast and simple method to improve your score. Despite what many of the charlatan type companies try to sell to the general public unless there is actual INCORRECT INFORMATION on your credit report, there is just no quick way to get negative items taken off and thus boost your credit score.
Now, if there is some incorrect negative information on your credit report, all you have to do is write a letter to each one of the credit bureaus explaining the situation and asking them to take it off. By law, they must do it.
One key way to get a higher FICO score is to pay in full and always pay on time. Another key is to keep your credit utilization rate low. One trick to doing this is to request a credit increase on your credit cards every nine months but DO NOT use the new higher limit. When you get the higher credit limit, you instantly increase your UNUSED credit, thus boosting that area of your credit score.
Keeping your credit cards and other credit lines open for an extended period of time is also another key to boosting your FICO credit score. The longer, the better, as the old saying goes. Even if you have cards with little or no rewards on them, do NOT close them out. Keep them open and use them once or twice per year and pay off the balance. Just use them enough to keep them active but always pay them off in full and on time. No exceptions.
Do not open new lines of credit unless you absolutely have to, like in the case of a mortgage. Otherwise, it’s best to stay away from new credit cards or lines of credit, as they will reflect poorly on your credit report. It is important to be disciplined in your use of credit and money if having a high FICO score is your goal. But that discipline WILL pay off (pardon the pun) in the end if you maintain it.
The financial advisor, Dave Ramsey, has a philosophy to try and reach an indeterminable score. This happens when you simply have no open accounts of any kind, and you don’t owe anyone any money.
The undeterminable score is a score of 0. This is not the same as a bad credit score. However, it can take anywhere from 8-14 months to reach this undeterminable score. Beware, though, as Dave Ramsey is the ONLY person who makes this claim.
The problem is until you reach that 0 score, your credit score will make it harder to get apartment leases, lower insurance premiums, and even some jobs. And you can forget about a mortgage.
As far as raising your FICO score involved, it stands to reason that focusing on the two keys that make up the highest percentage of the FICO score would be to your benefit. Sixty-five percent of your FICO score is made up of your payment history and how much credit you have available but unused. So even if your history to date hasn’t been that great, step one would be to pay in full as much as you can and ALWAYS pay on time.
I would also get a copy of your credit report and scrutinize it with a fine-tooth comb to make 100% sure there are no mistakes there. They do happen, more often than you probably think. If you can find 3 to 5 errors in your payment history that can be cleared up quickly, your score could jump up very quickly.
The second strategy I would utilize is to ask all your creditors for a credit increase every nine months. Doing this will increase the amount of credit you have available but under no circumstances should you use that credit. Keep paying in full and on time every month. What will happen is you will automatically be utilizing less of your available credit once you get an increase, and that will quickly show up as an increase in your overall FICO score.
These two strategies alone can significantly impact your FICO score, which can literally open many new doors for you through the availability of new credit and new financial opportunities. It won’t take as long as you think, believe me. Just continue to be diligent and disciplined and focus on the two core strategies that make up 65% of your FICO score. The rest of the factors will take care of themselves if you do.
I hope you have found this guide to FICO scores helpful. If you use this information to your advantage, I guarantee you will eventually get the results you are looking for.