How is a Credit Score Determined?

Your credit score, which is also referred to as FICO is determined using a specific formula.  Based on the number associated with your score, it would be deemed that you have poor, fair, good, or excellent credit.  Obviously, the better your credit score the more creditworthy you are which means you have more buying power.  Unfortunately, millions of people have poor or fair credit, sometimes from money and credit mismanagement and other times from situations beyond their control such as being laid off from work, the death of a spouse, divorce, major illness, etc.

Your credit score, which is also referred to as FICO is determined using a specific formula.  Based on the number associated with your score, it would be deemed that you have poor, fair, good, or excellent credit.  Obviously, the better your credit score the more creditworthy you are which means you have more buying power.  Unfortunately, millions of people have poor or fair credit, sometimes from money and credit mismanagement and other times from situations beyond their control such as being laid off from work, the death of a spouse, divorce, major illness, etc.

If you have damaged credit, you can actually order a free copy from each of the three reporting agencies every 12 months.  After ordering your report from all three agencies, TransUnion, Experian, and Equifax, you would have the opportunity to identify any mistakes that could be bringing your credit score down.  Once your credit report has been repaired, your score would improve.  However, the amount of improvement would depend on the types of items being reported in that some things such as bankruptcies, tax liens, and judgments are required by law to stay on a person’s report for a certain amount of time.

Everyone in the United States should take time to learn the way in which the credit score is devised, as well as to know what their credit score is and what items need to be removed.  We wanted to provide information about the formula used to determine the credit score, which would actually help you avoid costly financial mistakes.  By knowing the exact things that would cause your credit score to drop gives you power in avoiding those very things.  Remember, in addition to your credit score dictating approval of a credit card or loan, today, insurance companies, and employers use this score when deciding to insure or hire.

For starters, the credit score consists of three numbers that start at 300 and go to 850.  Prior to the world financial crisis starting in 2007, someone with a credit score of 680 would have no problem in securing a mortgage loan with an excellent Annual Percentage Rate but today, qualifications for securing a loan are tougher, meaning you would need a score of 72- at minimum for the lowest interest and best terms.  Although all financial institutions report to the credit bureaus, the guidelines for how information is reported varies, which is why you might be declined a credit card from one issuer but be approved by another issuer.

Through a series of tests done over years, experts were able to identify which predictors should be used in developing the formula used to establish the credit score.  These include payment patterns, type of credit, owning a home, years being a credit cardholder, spending over the credit limit, etc.  Each predictor was given a numerical value, which was followed by statistical models being created.  Although this system is fast, it is not without imperfection.  For instance, a millionaire could still have bad credit whereas someone without any money could have excellent credit.

For your credit score, otherwise called the FICO score to be determined, all of the abovementioned factors would be considered using the formula based on numerical value created.  When you are responsible financially by making payments on time, not spending more than you can afford, etc, your credit score would improve but for each payment made late, carrying too much credit, or spending too much would cause the score to drop.  This is why being responsible financially is so critical in that every decision has an impact on the score.