Credit Scoring

What is it

Your credit score is a number assigned to your credit worthiness. This number is calculated by the various credit reporting agencies according to their own individual algorithms. While each agency has their own algorithm which will likely calculate a different number than their competition, it should reflect a somewhat accurate value of your bill paying history.

Who uses it

Your credit score is used not only to obtain credit cards but also for home and auto loans, rental property qualification, and your home and auto insurance. In fact, each of these organizations not only can determine whether or not to extend credit to you, these credit scores also play a factor in how much you are going to pay. With loans, you know the terms up front and you can see what your interest rate is. With insurance companies on the other hand it is not as clear but rest assured your insurance premium is tied to your ability to pay (determined by your credit score).

How to check it

Each of the three major credit reporting agencies (Equifax, Experian and TransUnion) by law must provide you with a copy of your credit report once annually (upon request). Many people chug along and figure as long as they continue to get approved, they are OK. This could not be farther from the truth (unless you want to pay more than you have to for loans and insurance). Note: If you are refused credit, you can also request a copy of your credit report, even if you have already received your annual copy. Instructions on obtaining this additional credit report is found on the refusal letter you received from your lending institution.
 
To simplify the process, you can go to AnnualCreditReport.com and sign up to run your credit report from each of the three agencies from this one site. As you run them, the individual agencies may try to up-sell you on their scoring and or monitoring service.
 
The Scoring service will provide you with the number which they assign to your credit worthiness. Some agencies will, as part of this up sell, also include the scores from the other agencies as well.
 
The monitoring service is to provide you with periodic updates on the activity on your credit report. This may of particular concern if you should lose your wallet or if you expect that someone has stolen your identity. Note: There are other steps to which you should follow if you expect that your identity is stolen, for example, you can have notes put in your credit file to prevent any more credit from being extended to your without authorization ... I don't know enough about this to elaborate, but know that it exists and you should check with each of the three reporting agencies (mentioned above) to see what your options are to protect yourself.

How to improve it

These algorithms that I discussed above are based on many factors, including your payment history, the amount of credit you have available as compared to the amount you have borrowed and how long you have had a particular credit card.
 
I can only share with your the tidbits that I have learned, this is not necessarily a complete list but it will certainly get you on the right track.
  • CREDIT HISTORY - Begin to establish your credit history as soon as you can (in life). I would recommend finding a credit card and spending a small amount each month any have the payment automatically drawn from your checking or savings account. Keep the amount that you charge small enough that there is no way that you can't pay it. This is critical as missing a payment will severely negatively impact your credit. As an alternative, if you can't be sure that you can pay it at the end of the month, cut it up and don't use it; just don't cancel it. You want the time that you have had any given card to mature. The length of time (years) that you have had a credit card improves your score.
  • AVAILABLE CREDIT - You need to have a good balance of available credit that is NOT used. If you have only one card with a $500 limit, don't use it to the limit unless you plan to pay it off at the end of the month. You don't want to use all your available credit as this will diminish your score. Build your credit value over time by obtaining two or three credit cards. Consumer loans (car, boat, home) also help to improve your credit when they are paid according the agreement.
  • OBTAINING CREDIT - You don't want to apply for multiple cards at the same time (necessarily) as this will appear that you are searching for credit (out of need). Rather, take a methodical approach to obtaining credit over years.
  • DON'T GET TOO MUCH CREDIT - Just like having too little credit, you can also get too much. You can have more credit than the ability to repay. In this case, your score will take a dive. There is a balance, a balance which I don't know. To keep your credit in check, what I would recommend is to be reasonable. Have two or three cards at most and maintain consistent on-time payments for all of them. Note: If you are like me and don't like to juggle too much, use only one card per month. Pay it off, then use another card the next month.
  • DEBITS CARDS - Debit cards are not credit cards. They do not help build your credit. They are very useful and pretty much all I use to pay when at a merchant but they are don't have any direct impact on your credit score.

My two cents

Stay away from gas cards and department store credit cards(Macy's, Home Depot, etc.) . They offer a small credit line, high interest and don't allow the flexibility of Visa, Mastercard, Discover and American Express.  Be sure to check with your local credit union to see what they offer, the will typically offer Visa or Mastercard.
 
When shopping for credit (and you should shop for a credit card just like you would any other purchase), look for things like:
  1. A low FIXED interest rate (I would stay away from variable rates). These cards seem to be getting harder to find but they do exist!
  2. A REASONABLE default interest rate. While you don't plan to ever be in default, you should not sign up for a card in which you would be locked into a 30% interest rate. That (in my opinion) is loan sharking.
  3. No annual fee.

More data stored about you

Like a credit report, insurance companies also check your C.L.U.E. reports. CLUE reports are a record of your insurance claim history. This includes accidents, homeowners claims, etc. Similarly to your credit reports, you should periodically review your CLUE reports.
 

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