Know the Score About Your Credit Rating

Know the score about your credit rating. This page discusses the importance of credit ratings and how they are figured.

Have you been hearing a lot about the importance of watching your rating? A good score can make a difference of around, say, $500 in monthly payments on a $250,000 mortgage. Plus a good score can also mean much lower credit-card rates.

How is a credit score calculated?

A credit score is a value assigned to be used in making lending decisions. Several criteria are used to come up with this value or credit score. This criterion includes the amount you owe on non-mortgage-related accounts such as credit cards, your payment history and credit history.

This information that is taken from your, first time home buyers, credit report and is plugged into formulas that calculate a value. This value represents the amount of risk you pose to a lender. That value is your credit score. The value also takes into account the track record of other consumers with similar credit profiles. By looking at this value, or credit rating, lenders are able to roughly gauge whether it's a good idea to extend you credit.

Fair Isaac calculates the widely used FICO credit score on a scale ranging from 300 to 850. Of course the higher the credit scores, the better the risk. It is used nationwide by lenders to judge credit worthiness. The score calculated generally used information from one of the three main credit bureaus: TransUnion, Experian and Equifax. It's possible there are discrepancies among information held at each of the bureaus that could affect your credit rating or score and the interest rate you receive.

What else affects my chances for qualifying for a loan?

A good credit score is just one component of the credit evaluation. This is especially so in the case of mortgages and car loans. In examining these types of applications, a lender will look beyond your raw credit score to scrutinize your payment history, among other things. For instance, the fact that the late payments on your credit report were on a small credit card (as opposed to a mortgage) could work in your favor. Lenders also take into account such factors as your income and earning potential, both indicators of your ability to repay a loan. Two borrowers with above-average FICO scores of 660 can get different interest rates, based on their existing debt burden and ability to meet required payments based on their income.

Is the credit score treated the same for all kinds of loans?

Generally, no. A mortgage loan will usually require you to have a higher score to qualify for a good rate than, for example, a credit card. But the nature of the loan may also play a role. For instance, a borrower with a low credit score applying for a 15 year mortgage with a 25% down payment may qualify for a better rate than someone applying for a one year adjustable rate mortgage.

Mortgage lenders will typically look at all the risks involved before deciding on a rate. If your lender has a loan portfolio with a high concentration of risky clients, the lender may require you to have a higher credit rating to qualify for a prime interest rate than a lender with relatively lower risk clients in its portfolio. So it's possible to get a prime rate with one lender, and get a not-so-good of a rate with another.

What can I do to improve my rating?

First make sure that the data each bureau has on you are consistent and up to date by ordering a copy of your credit report. You can do this about once a year. Be sure to dispute any inaccuracies. To learn how to do this click here.

You should also be aware of what affects your credit rating. This way you can help minimize the damage you can potentially do to it. For example people tend to get nervous when they receive credit card solicitations in the mail. However, scorers treat these solicitations as "spot" inquiries, which do not affect your credit score. But, whenever you apply for credit this is treated as a "hard inquiry". Hard Inquiries are factored into your credit score. Too many inquires over too short a time can have a negative impact. Keep in mind that scorers make special provisions for mortgage and car loans inquiries because people tend to shop around more for these products. Overall though, credit inquiries account for only about 10% of the total score.

The main components of the score are your payment history and the amounts you owe. A bankruptcy filing can remain on your credit report for as long as 10 years and foreclosures can "significantly lower" your score. You should avoid taking on more credit than you can handle.

Late payments will also work against your credit rating, so it is important to make all loan payments on time even if it means paying the minimum balance. Avoid "maxing out" your credit lines and strive to maintain low balances to keep your credit rating high.

This will improve your score over time, because people owing smaller amounts on their credit accounts are viewed as having a lower repayment risk than those who owe more. By carefully managing your credit, it is possible to add as much as 50 points in a year to your score. There is nothing that you can do to your credit rating that you can’t recover from.

How much should I worry about my credit rating?

Unless you have an especially troubled financial history, you don’t need to worry much about your credit rating. Much of the current anxiety over credit scores stems from the public's misunderstanding of the way in which these numbers are used and factors that affect them. People are spending a lot of time and money trying to modify their credit rating when perhaps it’s not necessary for them to get preferential interest rates.