Raising your FICO number can help you get the best deal on many loans. In fact, three quarters of all mortgage loans are sorted on the basis of credit scores, the most widely used being FICO. Consider the following scenario.
You lost, scoring only 550. Your dutiful neighbor won, with an 800, headed for that five bedroom mansion in the suburbs. Your sister is right on the cusp, with a 620, her loan application sitting in purgatory awaiting further review.
This is the world of credit scoring, where a little known three-digit number called your FICO score pretty much determines whether you'll get the house of your dreams or the car of your fantasies. It's not unlike high school, when SAT scores separated the most likely to succeed from the destined failures. Someone is still keeping tabs, in a decision-making process obscured from public view.
But that recently changed. In March of 2001, Fair, Isaac & Co. of San Rafael, Calif., creator of the FICO credit-scoring system, began making these scores available to consumers. To learn yours, which can range from 300 to 900, go to myfico.com. (There is a small charge)
So what can you do to improve your score? First, you need to understand how your score is calculated:
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Payment history. This is the key determinant of your score:
Thirty-five percent of the number is based on whether you've paid your bills
on time.
Amounts owed. Your total amount of debt, including balances on credit cards, car loans, and student loans, accounts for the next 30 percent of your score. "Keep balances low, especially on revolving debt," says Fair, Isaac general manager Cheri St. John.
Not too low, however. "Everyone would agree that paying off revolving debt is a good thing," says Fair, Isaac spokesman Craig Watts. but all things being equal, "having a little balance on a line of credit is a little better than no balance at all." Why? Because a zero balance provides less information to the FICO scoring model about one's ability to manage debt than a small balance does.
Credit history. How long you have had credit makes up 15 percent of the score. FICO scores take into account both the age of your oldest account and the average age of all your accounts. By closing out old cards, you may inadvertently lower your score by shortening your credit history.
Closing old accounts can hurt in another way. the FICO model rewards consumers who maintain a big cushion between their outstanding balances and their credit limits -- for example, $1,000 owed on a card with a $10,000 limit. But close out an old account with no balance, and you will also reduce the overall amount of credit available to you.
New debt. When interest rates are falling, consumers often shop for lower-rate cards. While this may reduce your monthly minimum payments, it might hurt your score, of which 10 percent is based upon your application history. Each time you apply for credit, the lender pulls a credit report. all this shopping around makes it look as if you are hungry to take on more debt.
Credit Mix. The final 10 percent of your score is based on how much credit you have and the types of debt you have incurred. Having too many accounts -- say, a card from every store in town -- could harm your score.
Now that FICO scores are available, credit counselors advise reviewing them -- and correcting any mistakes. Perhaps a lender credited an auto payment to the wrong account, or your payment got lost in the mail. It pays to recognize these instances and correct them.
The bottom line: Take the same active role in managing your credit score as you would with any other financial matter, like your 401(k) or IRA. Think about your debt portfolio the same way you think about your asset portfolio.
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