Calculating and Improving Your FICO Score

What is my FICO score and why is it important?

For many people, the first time they will have to deal with their FICO score is when they are applying for a home loan. Most lenders who participate in the FNMA (Fannie Mae) loan program will require a FICO score of at least 620. While there are exceptions, chances are that a lower score will mean a higher interest rates. Credit scores below 620 will often mean that a homeowner will have to make a larger down payment and may also be facing a higher interest rate.

Fair Isaac and Company (FICO) developed scoring in 1989 that was intended to allow lenders to gauge the amount of risk that was associated with specific borrowers. Each credit bureau calculates a debtor’s credit scores based on some specific criteria that are offered by FICO. FICO scores were created to provide creditors with an unbiased method of evaluating debtors. FICO scores do have an impact on whether or not you will be able to get credit. In addition, a low FICO score may determine the rate of interest you will be paying on loans that you apply and are accepted for.

FICO scores are calculated using payment history, length of credit history, new credit, the types of credit used and amount of credit outstanding. Each of these calculations is weighted based on specific criteria set down by FICO. The weighting is done the same across all credit bureaus:

• Payment history 35%
• Amount owed accounts 30%
• Credit history (length) 15%
• New credit 10%
• Type of credit 10%

Each credit bureau may produce a different FICO score as they are based on the report that they have on record. There may be some variances in your FICO score at any given time because not all creditors necessarily report to all credit bureaus at the same time. Generally, FICO scores are only one component that lenders review when considering the risk they are taking in making a loan. FICO is not intended to advise a lender if a borrower is a “good” or “bad” borrower, merely to provide guidance to the lender.

Improving your FICO score – Consumers who are considering applying for a loan may want to consider improving their FICO score before applying. There are several ways that this can be accomplished including:

• Making sure there are no errors – Credit reporting agencies are not perfect, sometimes there is erroneous information in credit reports. Take advantage of your ability to request an annual credit report free of charge and verify that the information contained in your report are accurate. File a dispute for any items which are on your report that are inaccurate.
• Making payments on time – One of the primary reasons for a lower FICO score is that consumers pay their debt late. Even when a creditor has a grace period, the late payment is still reported to the credit bureaus. Setting up a method that will remind you when payments are due can help you improve your FICO score. The more current payments you make, the higher your FICO score can rise.
• Review your current debt levels – Take an honest look at the amount of debt that you have outstanding. This includes credit cards, revolving charges, home equity lines and automobile loans. When feasible, pay off larger credit cards (or consolidate), close any credit cards that have no balances (send a letter to the creditor as well as the credit bureau) and make regular monthly payments on outstanding balances; whenever possible, pay more than the minimum.

When you are considering purchasing a home or refinancing your existing home, your FICO score matters. Not only will a low FICO score impact whether or not you are eligible for a loan, a low FICO score may mean a higher interest rate. Request your credit report, verify that all of the information is accurate and take the steps necessary to improve your FICO score before you apply for a home mortgage. Taking these steps could mean a better interest rate as well as easier approval of your home loan.