CREDIT BASICS COURSE
Lesson Three: Your Credit Scores
Chapter One: Common Credit Scoring Models
Remember all those decisions involving your credit? Chances are very high that the credit score involved was generated by a company called, FICO. FICO holds a true monopoly on credit-based decisions, being involved in around 90% of them. That said, there are over 1,000 scoring models in the US, and even FICO has multiple versions of its own score.
When you hear about credit scores other than FICO, you will likely first hear about VantageScore.
VantageScore was developed in the early 2000s through a collaboration of the three major consumer reporting agencies in an effort to counter FICO’s dominance. While its early versions looked much like school grades and grading percentages (900 to 990 equated to an A, 800 to 890 equated to a B, etc.), VantageScore has not taken off with actual lenders.
Other scores available through the credit bureaus would include the Experian Plus and the TransRisk scores, being similar in calculations and formatting to common FICO scores.
If you’ve ever seen the FICO scoring system, you may have wondered why it is so quirky. Let’s see if that is the case in our next segment.
Chapter Two: The FICO Score Range
The FICO credit scoring model starts at 300 on the bottom end and goes to 850 at the top. You would think a range of 1 to 100 or 1 to 1,000 would make more sense, but that would be looking at the score from the perspective of a consumer. It was not until the late 1990s that consumers could even access their own credit scores. The FICO scoring model was created for lenders, so it was designed for the lenders’ systems. It did not have to make sense to consumers, just to the lenders.
Where does a good credit score fall on this scale? Let’s take a look.
Chapter Three: Good Credit Scores
Defining a good credit score with a number is actually a mistake. The FICO score itself should not be defined as good or bad, because a good credit score simply means you will qualify for the best interest rates and repayment terms a potential lender has to offer. Since lenders vary in their qualification standards, the credit scores necessary to get those best terms will also vary. Some will offer their best interest rates and repayment terms to borrowers with a credit score of 690 and higher (such as FHA home loans). Other lenders are more conservative and require a 725 score or higher. Still others will only offer their best rates and terms to borrowers with scores at 760 or higher.
That said, it would be safe to say that those with credit scores in the 750 or 760 range or higher will be considered to have good credit by just about all lenders.
It should also be noted that trying to achieve scores even higher (say, in the 800s) does not mean you will earn any additional benefits. Although it may give you bragging rights, it might also be considered a waste of time, energy and sometimes even money.
If you are wondering if everything below the 750 or even 690 threshold equates to a bad credit score, well, let’s answer that question up next.
Chapter Four: Bad Credit Scores
It is helpful to remember that credit scores indicate the likelihood of the consumer making his or her payments on time and as agreed. Recognizing the variety of possible scores, lenders also offer a variety of repayment terms and interest rates based on the risk they are willing to take with the variety of potential lenders. For this reason, it is an over-simplification to categorize any score as good, bad and even okay.
That said, when a consumer has a score in the low 500s or below, it will be extremely difficult for him or her to qualify for any loan or line of credit. Those who have filed for bankruptcy recently will likely find their FICO score in the 485 to 515 range, depending upon what it was before they filed and what was included in their bankruptcy petition.
That said, even consumers with scores in the 600 range can find it difficult to qualify for loans with many credit card companies, banks and credit unions.
Since a higher score can save you thousands of dollars over the lifetime of a car loan and tens or even hundreds of thousands of dollars over the lifetime of a mortgage, let’s find out how to get a hold of your score and whether you need to pay for it or not.
Chapter Five: Viewing Your Credit Score
If you want your FICO score that would be used by actual lenders, you will need to do one of two things:
Go to MyFICO.com and sign up for the $20 to $40 monthly subscriptions or apply for a loan and ask the lender to share your score with you.
Otherwise, there are many free options to get a credit score that is similar to FICO, if not the same.
Accessing your own credit score with these options will not hurt your credit and can be used to monitor activities on your accounts. For example, if you notice an unexpected sudden drop in your credit score, regardless of which version you are using, it might be a sign of fraud or identity theft you need to look into.
Most, but not all, of these services have their own apps, but all can be accessed online. You can use one or all of them. It’s up to you. Here is a list of a few, with more becoming available all the time:
Mint.com, Credit Karma, Credit Sesame, Credit.com, Bankrate, CreditWise, WalletHub and many credit card companies.
Now that we’ve learned about what good and bad credit is and how to access your scores, let’s look next at some of the events that negatively affect your credit, followed by things you can do to improve your score.
Chapter Six: Painful Events on Your Credit
For some reason, most people believe that the worst thing you can have on your credit report is a collection account. In reality, collections come far down the list of painful events that will negatively affect your credit. The first and most damaging is filing a personal bankruptcy, whether a Chapter 7 or Chapter 13. We estimate that between 30% and 35% of your credit score can disappear through filing bankruptcy.
Next, experiencing a home foreclosure or going through a home short-sale might lower your score from 25% to 30% or so.
Finally, each account that ends up in collections can have a 5% to 10% negative effect on your credit score. So, if you have multiple collection accounts on your credit report, you can see a dramatic decrease within a short period of time.
Speaking of collections, do you know the first steps you should take if you ever receive a collection notice? That’s up next.
Chapter Seven: Dealing with Collection Account Threats
The same day you receive a notice in the mail from a collection agency that they have acquired one of your accounts, call the original creditor. This information must be on the mailed notification. Speak with their finance department or billing specialist. Be honest about why you have not made payments and ask if you can set up a monthly payment you can afford. Then, ask if they can retrieve the account from the collection agency. The sooner you do this, the more likely the account will be returned and will NOT show up on your credit as a collection.
If you receive a phone call from a collection agency, your sole focus should be on getting them to send you confirmation in the mail that the account is yours. NEVER give debit, banking, or credit card information to a company that calls you. Arrange all your payments by mail unless you are 100% sure of the legitimacy of the collection agency. Legitimate collection agencies will not threaten you, verbally abuse you or harass you.
If a collection account makes it onto your credit report, what are your options?
When a collection account ends up on your credit report, it has a negative effect on your credit rating.
That said, the newer FICO scoring models ignore collection accounts that have zero balances, even if they remain on your report for seven years. The sooner you can arrange to pay off your collection accounts, the sooner your credit rating will improve.
Now that you know how to deal with some of the negative events on your credit report, let’s discuss five general steps you can take that will have a positive effect on your rating.
Chapter Eight: Activities that Positively Affect Your Credit Score
Let’s cut through all the clutter and chatter. Here are five great general financial activities you can use to build your credit:
Get your accounts current. If you have missed a payment or are late, get caught back up.
Make at least the minimum payment on every account.
Pay down your debts as much as possible. This includes credit cards, home loans, car loans, student loans, and even collections.
Keep old accounts open and, ideally, at zero balance. Closing old accounts will likely hurt your utilization rate which lowers your credit score.
Whenever you make an in-store purchase with a store card, pay off the balance before leaving the building. You may do so at the customer service desk or, in some cases, at the cashier stand. Consequently, you will have made and paid for a purchase and have a zero balance on the account, all of which contribute to positive credit ratings.
Want to know six specific steps you can take to rebuild bad credit? Let’s look at these in the next chapter.
Chapter Nine: SIX Steps to Building (or Rebuilding) Your Credit Score
While these steps are specifically designed to help consumers with poor credit to rebuild their rating, they can also help consumers who have no credit rating to get established.
Pull your credit report at AnnualCreditReport.com and review and clean up as discussed previously.
Ask a trusted family member if they would be willing to add you to their credit card account as an authorized user. You do not need to use or even see the card when it arrives, but you will benefit from your family member’s good credit without your own poor credit affecting him or her.
Ask your utilities and cell phone service provider to report your history of on-time payments to the credit bureaus. Not all such companies are in a position to do so, but many can. Consider using a free service like Experian Boost.
If you already need new tires or brake work on your vehicle, save up the money in cash and then apply for a line of credit at the tire shop. That evening, link your bank account to the line of credit and pay off all but a small amount of the balance, so you are not incurring interest on a large balance.
Then, make payments on the account for the next six months or so until the account is paid off in full.
You can do the same thing with a retail or gas card.
Find a bank or credit union that offers a secured credit card and that reports activity on the card to the credit bureaus. Shop around, since many charge annual and even monthly fees. Be prepared to put down $300 to $800 as collateral in order to open the account. You will get the money back once you can convert the account to a standard credit card or you close the account in good standing.
Find a bank or credit union that offers a credit builder loan. Typically, the lender will place your loan in a secured account that you cannot access until after you have made monthly payments for a year or paid off the debt.
Building and rebuilding credit can take time, so be patient. We have had clients go through bankruptcy, work hard for the next two years to rebuild their credit, and qualify for a home loan with excellent interest rates and terms.
What about a general approach to building and caring for your good credit. The next few segments will finish up your credit building journey with a plan.
Chapter Ten: Your Credit Building Plan
Despite everything on the Internet, you can read about credit, your plan for building your credit score and protecting your credit rating can be very simple. You do not need a large number of accounts. In fact, with a couple of store and credit cards whose balances you keep low and that you pay off every month, you can build a score that would qualify at most lenders for their best interest rates and repayment terms. Additionally, one purchase a month, such as your cell phone bill or even a pack of gum, will build a history of positive activity needed for good credit.
You do not need to have a car payment. In fact, we recommend avoiding car loans because you are incurring a debt for something whose value declines over time.
Having one installment loan on your report over the past 10 years can also help, but limit it to a mortgage, student loan or business loan, since these are for assets or activities that increase your net worth or improve your ability to earn money.
Now, let’s wrap up this course with some housekeeping issues to get you your certificate.
Chapter Eleven: Committing to Credit Building
As we finish up this course, I want to congratulate you for sticking with me. Credit scores and reports can be confusing and feel overwhelming. You are, of course, welcome to revisit these videos anytime in the future as a refresher.
At this point, I invite you to now complete the five-question quiz in order to earn your certificate of completion. The certificate will be emailed directly to you immediately. In addition to answering the quiz questions, I also encourage you to complete the credit building commitment statement by identifying one step you plan to take this week to start or continue your credit building process. We know that committing to a goal and having a single step planned for the next 7 days greatly increases your chances for success.
Look for additional video courses on our website at MoneyFit.org/Academy.
To receive a certificate of completion for the “Credit Basics” course, complete the 5-question quiz with at least 4 correct answers.