The Facts about Your Credit Score

What You Should Know about That Pesky Three-Digit Number

Arizona REALTOR® Magazine - June 2010

You know that your credit score is important. The FICO ® score affects the ability to purchase a home or car, impacts insurance premiums and can even influence employment. But do you know how to protect or improve it? Here are six things you can do:

First, Stop the Bleeding

If you’re in the midst of a financial crisis, you’re not in a position to improve your credit score. You need to stabilize your situation before you can begin that process. Begin by taking a careful look at your income and expenses and developing a budget. Approach creditors and ask if they have programs, such as forbearance or modified payment plans, which can help you through this financially difficult period. Be aware that these plans may have additional fees and/or increase your debt in the long term.

If you’re having trouble making your mortgage payment, a HUD-approved housing counselor can advise you—for free. You may also want to consult the Arizona Short Sale Seller Advisory, which explores options other than foreclosure. The top priority in a mortgage crisis is to decide whether or not you want to stay in the house. The decision to stay or go will dictate the strategy you select.

Patrick Ritchie, author of The Credit Road Map and a senior GRI instructor, explains that it is critical to understand that the majority of the credit damage is going to come from late payments on the mortgage, regardless of the end result. He emphasizes that no one answer covers every individual’s situation because each homeowner faces different circumstances, and the contents of a credit report are like DNA for each individual. Regardless of the credit score situation, it is more important to look at the far-reaching aspects of a mortgage crisis to avoid future liability, he explains. Credit can always rebound over time; many people are back to average FICO® scores within three years of a bankruptcy or foreclosure. According to Craig Watts, public affairs manager at Fair Isaac Corporation (FICO), “Based on the information that lenders report and the way it shows up on consumer credit reports, the FICO scoring model assesses a foreclosure, short sale or deed-in-lieu as a serious derogatory tradeline. They all represent a major failure on the part of the consumer to meet his mortgage obligation.”

For more information on getting control of your finances, consult this Federal Trade Commission (FTC) article, “Knee Deep in Debt.”

Request a Free Copy of Your Credit Report

Whether you’ve just come through a financial crisis or have been humming along just fine, you should review your credit report annually. Checking your credit report regularly is an important way to safeguard your financial well-being and protect yourself from identity theft and other financial crimes.

Do not pay for this privilege! Under federal law, you are entitled to a free credit report each year from the three nationwide credit reporting companies (Experian, Equifax and TransUnion). Simply visit AnnualCreditReport.com (or call 877-322-8228) to request your report. (If you paid for what you thought was your free annual report, report it to the FTC.)

According to an April 2009 survey summary from Capitol One, 55% of Americans know they can get their credit report for free. However, only 41% review their credit annually, and 19% have never checked their report. Be in the savvy minority!

Report Inaccurate Information on Your Report

Once you have your report in hand, go over it carefully. A 2004 report from U.S. PIRG, the federation of state Public Interest Research Groups (PIRGs), says that 25% of credit reports contain errors serious enough to result in denial of credit.

If you need to dispute an item, draft letters to both the credit reporting company and the source of the information on the report. Under the Fair Credit Reporting Act, both are responsible for correcting the information. With the letters, include copies of relevant (not originals) documents that support your statement. The Federal Trade Commission provides a sample letter and other information on contesting inaccuracies.

If you prevail, you can ask the credit reporting company to send notice to anyone who received your report in the preceding six months—or two years, if the report was pulled for an employment screening. If they decide against correcting or removing the item, you can ask that a statement of dispute be included in future reports.

Suspect identity theft? It gets more complicated. Check out the FTC’s identity theft site. (Find out legal requirements agents and brokers need to be aware of to prevent identity theft.)

Don’t wait until you need credit to review your report. It can take time to get mistakes corrected.

Avoid Getting Scammed

You’ve probably encountered ads for companies that offer to “fix” your credit or make your problems go away, guaranteed. Save your money. There is no quick fix when it comes to your credit, and no one can get accurate information removed from your report. Here are several red flags that should alert you that something is fishy:

• They ask for payment before services have been completed.
• They don’t explain what you can do for free on your own.
• They tell you not to contact the credit reporting companies directly.
• They promise to have accurate information removed.
• They encourage you to create a “new” credit identity.
• They do not provide a written contract (with their name and business address on it) that specifies the payment terms, describes the services and provides a timeline.

Don’t act on bad advice and commit fraud. Per the FTC, “It’s a federal crime to lie on a loan or credit application, to misrepresent your Social Security number, and to obtain an Employer Identification Number from the Internal Revenue Service under false pretenses.”

If you suspect you’ve been the victim of a scam, report it to the Arizona Attorney General.

Build a Better Score

Here are three ways you can improve your score on your own:

1. Use it or lose it. You want to have at least one major card (Visa, MasterCard, American Express, Discover) reporting to the three credit agencies. Having a card in your drawer doesn’t do much good—and can lead the credit card company to close your account, which can ding your score. You’ll need to charge items occasionally. That said, you don’t have to carry a balance. Whenever possible, pay off your balances in full each month. And just because one card is good does not mean ten is better. Avoid opening unnecessary accounts, which can lower your score.
2. Don’t max out. “More than a third of your FICO score depends on how much of your available credit you're using -- your so-called credit utilization,” reports credit expert Liz Pulliam Weston. “The FICO formula likes to see big gaps between your balances (whether you pay them off each month or not) and your limits, especially on credit cards.” In fact, she recommends that you use under 30% of your available credit—and under 10% is even better. (And don’t miss what she said in the parentheses. Putting a major purchase on a card will ding your score whether you pay it off quickly or not.)
3. Automate it. Because regular credit use helps your score—and helps prevent a card from being closed—why not arrange to have a specific bill, such as your electric bill, paid with your credit card? Then set up your bank account to automatically pay the balance by the due date each month. That way, you prevent damaging late payments while establishing your credit-worthiness.

Get more tips on building a better credit report from the FTC.

Avoid Hurting Your Score

Some things that hurt your credit are obvious—bankruptcy, foreclosure, skipping payments. Others are more surprising, such as maxing out a card. Here are four ways to sidestep trouble:

1. Pay fines and parking tickets. While these items seem unrelated to credit, they can be reported to credit reporting companies and end up lowering your score.
2. Protest if your lender reduces your credit line. This affects your credit utilization (see #2 above). If it’s a credit card line, call the company and politely explain that you may move your balances to other cards if they don’t reconsider. (But don’t close the card—which can also affect your score.) If it’s a home-equity line of credit (HELOC), you want to be able to show that your loan-to-value ratio is 80% or better. (If you get an appraisal, be sure to user a lender-approved appraiser.)
3. Reconsider disputes. You may have a valid reason to refuse to pay a certain charge. But be careful that you don’t shoot yourself in the foot. If the other party sends it to collections, you could compromise your credit score.
4. Weigh risks versus rewards. Some things that make financial sense for you can still harm your credit score—from transferring credit card balances to settling debts to loan modifications. The best you can do is evaluate your options and choose the lesser evil.

According to Experian, the average U.S. credit score in May 2010 was 692. How do you measure up? Start improving your score today!