Funding Investments

Credit Scoring Fundamentals
Raising Your Credit Score Can Reduce Your Financing Costs

A credit score is a number that helps lenders predict how likely you are to make your loan repayments on time. In general, the higher your score, the lower your cost to borrow money, which means the more profit you can make on your investments.
Scoring Components

FICO scores are developed by analyzing various components on your credit report. Although the analysis is unique for each person, here's how the scores generally assess credit reports:

1. Payment History (~35% of Score) - Paying your credit accounts on time helps increase your score while paying late will lower your score. Adverse public records such as liens, delinquency, judgments and suits can lower your score.

2. Outstanding Balance (~30% of Score) - The more you owe as a percentage of your available credit, the lower your score. Multiple accounts with balances also serve to lower your score.

3. History of Credit (~15% of Score) - A long history of good credit will increase your score. If your history is short you can still get a good score if the rest of your report shows responsible credit management.

4. New Credit (~10% of Score) - Multiple applications for recent credit can lower your score. FICO Scores distinguish between a search for the lowest rates for a single loan and applications for multiple credit lines, in part by the length of time over which inquiries occur.

5. Other Factors (~10% of Score) - a number of other minor factors can influence the score. These typically vary by individual and can include the mix of credit lines (multiple types of credit can help improve your score over time).

What is a good score?

FICO scores range from 300 to 850 with most people falling into the 600 to 800 range. Scores above 700 are considered by lenders as very good. Scores below 600 indicate a high risk to lenders, resulting in loan offers at much higher rates or even in lenders declining loans.

There are three credit reporting agencies that calculate your credit score and all three can calculate your score differently. When applying for a mortgage the lender will typically analyze your credit report and score with all three agencies.

Does applying for a loan change my score?

In general, if you are shopping around for the lowest mortgage rate within a short period of time it will not adversely impact your score. Even if it does drop, it probably won't drop much. However, if you shop for a loan with one lender, obtain pre-approval (which generally means the lender pulled your credit scores), and then take several months looking for property before completing your application, perhaps with a different lender, you may find your credit score is reduced, resulting in receiving your loan at higher rates than may have been possible had you been more judicious in your loan search. The general rule of thumb to follow is to try and keep your application process within 30 days from start to finish. If you have a copy of your own credit score, a lender may be willing to use this to provide pre-approval so that they only need to check your score directly at the time of your loan application. This is a better option if you plan on taking some time to find the right property.

If you plan on selling your existing property in order to purchase your new property, you should determine if you need to take a home equity credit line in order to have enough money available for your purchase deposit. If you will need an equity line, you should apply for it before you list your home for sale (many lenders will not authorize an additional credit line on a home listed for sale).

How to improve your FICO score

Raising your credit score is like losing weight; it takes time and there is no quick fix. In fact, according to Fair Isaac Corporation, quick-fix efforts can backfire.

Paying bills on time has a significant impact on your score (avoid delinquent accounts and collections). Whenever you miss a payment be prompt about bringing your account current and be diligent about making follow-up payments on time. A collection account will remain on your credit report for seven years. Sometimes events happen that are beyond anyone's control and you can end up in difficulty. If you are having problems paying off your accounts, contact your lenders and ask for help or contact a legitimate credit counselor.

Credit Cards: keeping your revolving balances low will help your score. Maintaining the same overall amount of debt but consolidating it into one card can actually lower your score, so if you pay off one card by opening a new line of credit with another card, you may find your score goes down. Closing unused credit cards may not help in the short term as their zero balances may help your score. Opening multiple new credit card accounts (including store accounts) is likely to lower your score more than simply raising your credit limit on your existing card.

Checking Your Scores

Many states allow you to obtain a free copy of your credit report each year. You can obtain a copy of your report directly from the agencies (www.equifax.com [800-685-1111]; www.experian.com [966-200-6020]; www.transunion.com [800-888-4213]) or from the Annual Credit Report Service (1-877-322-8228) www.annualcreditreport.com. You will be asked to pay a small fee (typically about $6) to obtain your credit score (your report is free). Checking your own credit score will not lower your score.

If your credit application is declined by one lender it's worth shopping around. Many lenders offer a choice of credit products geared to applicants with different levels of risk. Lenders typically have their own guidelines so if you are turned down by one lender another may approve your loan.