Fair Isaac is changing how the FICO score is calculated, and the new model could lower scores for 40 million Americans. Here is what is changing and how to keep your credit on track.
1 Why Your Credit Score Matters
You need a high credit score to save money on the interest rates banks charge you on credit cards, and loans, including for a home and car. Most landlords will check your score before renting you an apartment. It can also impact the rates you pay for home and auto insurance, and even affect your chances of getting certain jobs.
Unfortunately, BILLSHARK regrets to inform you that Fair Isaac Corporation, the firm that generates the FICO score used by lending institutions to address the creditworthiness of customers, has just announced new rules that will make achieving that score more difficult for many people.
The new changes, slated to go into effect this summer, could end up slightly increasing scores for people who always make their payments on time and who don’t carry a balance from month to month. For the 40 million others who aren’t as comfortable financially, their scores could drop by as much as 20 points under the new computation system.
2 A Bit of Background
The purpose of the credit scoring system is to reduce lenders’ risk when granting credit to someone. The better your score, the less chance you will default on the loan.
A “perfect” credit score is a FICO rating of 850. A “high” credit score is reckoned to be between the high 700s to low 800s. A “poor” score is 600 or below.
The credit bureaus—Equifax, Experian, and TransUnion are the big three—gather your credit information from FICO and others, and report this data to lenders when you apply for credit.
3 What Comprises Your Score?
No one knows why scores differ, or what algorithms are used to determine them, as FICO and the credit bureaus claim those algorithms are proprietary.
But experts generally agree that the method takes the following factors into account:
Payment history: This includes whether you pay all of your bills on time; whether you’ve ever been late with any of them and how late; what the amount past due is/was; how many credit accounts you have (including cards and loans like car or home); and how long it’s been since you have been late on any payment. It also includes whether you’ve had collections, a bankruptcy, or judgments against you.
Amount owed: This includes how much money you owe on each of your accounts as well as how much you owe in total; your individual and aggregate lines of available credit; and how much of each of your credit lines you’re using. The less you use of your available credit, the better.
Length of credit history: This includes how long each account has been open, along with how long it’s been since they’ve been active. The longer your credit history, the higher your score.
New credit: If you have applied for new credit recently, this will drop your score, whether or not you’ve been turned down, because the agencies won’t have a history that they can track on this new account.
Type of credit used: This includes all the various types of credit available to consumers—mortgages, installment loans, retail accounts, and credit cards. A variety of types is good, because it shows you are responsible across a range of credit obligations.
4 A New Approach
With the new changes, Fair Isaac will no longer just take a “snapshot” of where you are now, but reach back two years to track all the factors, including bank account balances. This is designed to give potential lenders a more in-depth picture of how you manage your finances over the long term.
The company claimed the new model will help reduce defaults.
“Many lenders want to leverage the most comprehensive data possible to make precise lending decisions,” Jim Whemann, executive vice president for Scores at Fair Isaac, said in a statement.
This could be good news if you are one of the 40 million individuals with no problem paying off balances every month, and with plenty of money in the bank. It will also help those who make large, one-time large purchases, resulting in a temporary spike in a credit card balance. In the past, these people saw their scores drop as a result of such a purchase.
“Consumers that have been managing their credit well—paying bills on time, keeping their balances in check—are likely going to see a gain in score,” said Dave Shellenberger, Fair Isaac’s vice president of product management scores.
As for the rest?
“The fundamentals have not changed,” Sefa Mawuli, a wealth adviser at Citrine Capital, told CNN. “Make timely payments, avoid taking on too much debt.”
And to find extra money to reduce credit card balances, let BILLSHARK’s professional negotiators help lower your bills. You pay only if we can save you money.
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Frequently Asked Questions
How could the new FICO changes affect my credit score?
The new computation system could slightly increase scores for people who always pay on time and don't carry a balance month to month. But for about 40 million others who aren't as comfortable financially, scores could drop by as much as 20 points. The changes are slated to go into effect this summer.
What counts as a good FICO score?
A "perfect" credit score is a FICO rating of 850. A "high" credit score is reckoned to be between the high 700s to low 800s. A "poor" score is 600 or below. The purpose of the scoring system is to reduce a lender's risk, since the better your score, the less chance you will default on a loan.
What factors make up my FICO score?
Experts generally agree the method considers payment history, the amount you owe, the length of your credit history, new credit you've applied for, and the type of credit used. Using less of your available credit and keeping accounts open longer helps, while applying for new credit can temporarily drop your score.
What is changing in how Fair Isaac calculates the score?
Instead of taking just a "snapshot" of where you are now, Fair Isaac will reach back two years to track all the factors, including bank account balances. This is designed to give lenders a more in-depth picture of how you manage your finances over the long term, and the company says the new model will help reduce defaults.
How can I protect my credit score under the new rules?
The fundamentals have not changed: make timely payments and avoid taking on too much debt. The change rewards consumers who pay bills on time and keep balances in check. To free up money to pay down credit card balances, Billshark's professional negotiators can help lower your bills, and you pay only if they save you money.
