Five Key Factors in Credit Report Scoring

Have you ever been refused credit and for the life of you can't figure out why? Well, perhaps you ought to take a closer look at your credit score.

Credit report scores were developed to enable lenders ascertain the credit worthiness of the borrower. Initially, these lenders used to rely on personal judgment but this was subject to human error. Thereafter, statistical methods were used to develop models based on certain variables and that's how credit scores came into existence.

Fair Isaac, Inc was the first company to come up with the FICO model to develop credit report scores. The credit scores that are developed using this technique are based on the information in your credit report. Each of the 3 credit bureaus namely Equifax, Transunion and Experian has developed its own variant of the FICO scores. The one developed by Equifax is called "Beacon”, that of Transunion is named "FICO Classic” and Experian uses the "Experian/Fair Risk Model”.

Generally a credit report score is a number that represents the likelihood of repayment or default. In other words, it shows how risky you are as a borrower. The FICO scores range from 300 to 850. A high score means that you are in a low risk category whereas a low score indicates that the possibilities of default are high. Listed below are the five key factors used in credit report scoring:

1] Payment History

Your past payment history contributes about 35% to your overall credit score. A lender who's going to risk giving you funds would like to know whether your past payments were made promptly and on time. The main question here is will a few defaults for example two or three late payments adversely affect your credit rating.

Well, it all depends on the overall picture. If you were about 30-60 days late in making a payment say about 4 years ago, this will have a negligible effect on your credit score. Your past year payment record should be in good shape though. If your payments have been delayed frequently in the past year, this will slash a few points off your credit report score. Unpaid debts and situations that have found their way to public records like bankruptcy, tax defaults, foreclosure etc. can also have a damaging effect on your credit score.

2] Total Amount of Debt Owed

This accounts for about 30% in determining credit report scores. How much do you owe in terms of credit cards, loans, mortgages etc.? Have you reached or exceeded the maximum limit on your credit cards? In other words, have you overstretched yourself financially? Here, sensible and responsible debt management goes a long way to improve your credit scoring.

Once you overspend on your credit cards, it is increasingly tough to make timely payments and the possibilities of default are high. So the chances are that if your debt owed to credit limit ratio is high, several points will be sliced off your credit score. On the other hand, having no credit at all or closing your zero balance accounts does not ensure a high credit score.

3] Tenure of Credit History

Around 15% of your credit score is attributed to the length of credit history. This means that the older your debt accounts, the better. So, if you've had a credit card for about 10 years and you've exhibited responsible credit behavior, the odds of getting a higher credit score are brighter. If you've only recently availed of a credit card or debt, some lenders may choose to refrain from or delay in giving you credit until your account matures.

4] New Credit Accounts and Inquiries

Though new credit accounts and inquiries cost you only 10% of your credit rating, they're still important enough to be given due consideration. If you've recently opened many credit accounts this could be interpreted as a sign of potential debt-drowning. Even new inquiries find a place on your credit bureau report.

Inquiries made in the last 2 years are listed in the credit report though for calculating credit scores only the ones made in the past year are considered. It's important to know that these inquiries only refer to actual inquiries based on applications for credit and exclude inquiries made randomly or those associated with pre-approved offers.

5] Type of Credit

Again, only 10% leverage is given to the type of credit you've availed of. What does your total debt comprise of? Ideally, a combination of both revolving credit i.e. credit cards and installment credit (personal loans, mortgages, auto loans etc.) is considered to be a wholesome mix. However, what type of credit would be optimal to increase your credit rating has not been clearly defined.

Now that you're aware of the five key factors in credit report scoring, you can manage your debt more responsibly and use your ingenuity to get a favorable credit score.