A FICO score is a credit score developed by the Fair Isaac Corporation (FICO). Lenders utilize FICO scores alongside other details from borrowers’ credit reports to evaluate credit risk and diagnose whether to grant credit.
FICO scores consider data across five key areas to calculate a borrower’s creditworthiness: payment history, current level of indebtedness, types of credit used, length of credit history, and new credit accounts.
Key Insights
- FICO credit scores quantify and evaluate an individual’s creditworthiness.
- In the United States, FICO scores are used in 90% of mortgage application decisions.
- Scores range from 300 to 850; scores in the 670 to 739 range are categorized as “good” credit scores.
- Improving your FICO score involves paying bills on time, using less than 30% of your available credit, and diversifying your types of credit.
The Mechanism Behind FICO Scores
FICO is a prominent analytics software company offering products and services to businesses and consumers. Its most recognized product is the consumer credit score, which judges financial decision-makers on whether or not to lend money.
In the U.S., FICO scores heavily influence credit decisions. Although borrowers can provide context for negative credit report items, many lenders will deny loans to people with low FICO scores. Particularly in the mortgage sector, scoring below lenders’ minimum FICO requirements can lead to loan denial.
Deciphering FICO Score Ranges
FICO scores span from 300 to 850. Typically, scores between 670 and 739 reflect a healthy credit history and favorable outlook from lenders. Conversely, scores from 580 to 669 may encounter challenges in securing finance under competitive terms.
Lenders consider various factors to establish creditworthiness, such as FICO score, income, tenure at current employment, and loan type requested.
Mastering Your FICO Score
Achieving an excellent FICO score demands a diverse mix of credit accounts and keeping an impeccable payment record. Utilizing less than 30% of your credit limits also favorably impacts your score.
High credit card debt, late payments, and frequent applications for new credit can dent your score. Regular checks on your credit report assist in identifying and rectifying errors. Legally, you are entitled to one free credit report annually from major bureaus.
Breaking Down FICO Score Calculations
FICO scores are calculated by weighing categories differently per individual. Generally, though, payment history is 35% of the score, accounts owed 30%, length of credit history 15%, new credit 10%, and credit mix 10%.
Payment History (35%)
Payment history reviews whether credit accounts are settled on time. Credit reports detail payments for each line of credit and mention bankruptcies or collection actions alongside late or missed payments.
Accounts Owed (30%)
Accounts owed pertain to the total owed amount. Debt size alone isn’t detrimental. FICO scrutinizes the ratio of debt to available credit. For example, owing $10,000 with maxed-out credit lines suggests higher risk compared to owing $100,000 on accounts nowhere near their limits.
Length of Credit History (15%)
Generally, an older credit history boosts the score. Nevertheless, favorable scoring in other criteria can still elicit a commendable score for short histories. FICO scores observe the ages of the oldest account, the newest, and the overall average.
Credit Mix (10%)
A diverse credit portfolio enhances scores. High scores require a combination of retail accounts, credit cards, installment loans, and mortgages.
New Credit (10%)
Newly opened accounts are evaluated. Opening many accounts rapidly signals potential risk and reduces scores.
FICO Score vs. VantageScore: Knowing the Difference
An alternative to the FICO Score is VantageScore, developed collaboratively by the three leading credit bureaus in 2006. Both FICO and VantageScore grade creditworthiness on a 300 to 850 scale, considering factors like payment history, credit mix, and utilization.
However, the weightings vary, resulting in different scores. FICO mandates one tradeline aged over six months, whereas VantageScore needs only one tradeline without an age specification.
FICO Score Versions
Various FICO versions exist, each evolving since the first model in 1989. The choice to adopt new versions rests with lenders. Despite new iterations like FICO Score 9 and the FICO Score 10 Suite, FICO Score 8 remains the most commonly utilized.
FICO Score 8 boasts improved predictiveness by being sensitive to highly utilized cards and offering a more nuanced impact from one-off late payments. It also categorizes consumers better, distinguishing those with limited credit history from those with extensive histories.
Understanding Your FICO Score Categories
A FICO Score above 670 is above average, scores above 740 indicate credit responsibility, and exceeding 800 showcases exceptional credit management.
Preferred FICO Scores for Mortgages
Experian indicates the FICO Scores typical in mortgage lending include FICO Score 2, 4, or 5. However, these scores are part of a broader review encompassing income, assets, and repayment history.
Frequency of FICO Score Updates
Each lender’s reporting period varies, causing credit scores to refresh approximately monthly, sometimes more frequently with numerous active loans.
The Final Takeaway
FICO Scores are critical tools in assessing a borrower’s creditworthiness. A poor score, while disheartening, can be improved through responsible borrowing and punctual payments.
Related Terms: VantageScore, credit utilization ratio, payment history, credit mix.
References
- Fair Isaac Corporation. “Frequently Asked Questions About FICO Scores”. Pages 2 to 4.
- Fannie Mae. “Selling Guide”.
- Fair Isaac Corporation. “Frequently Asked Questions About FICO Scores”. Page 4.
- Fair Isaac Corporation. “Frequently Asked Questions About FICO Scores”, pages 3, 7, and 11.
- VantageScore. “About VantageScore”.
- Fair Isaac Corporation. “FICO Scores Versions”.
- Fair Isaac Corporation. “FICO Score 9 Now Available to Consumers at myFICO.com”.
- Fair Isaac Corporation. “New FICO Scores: FICO Score 10T”.
- Experian. “Which Credit Scores Do Mortgage Lenders Use”?
- CNBC. “Constantly Checking Your Credit Score? Here’s How Often It Updates”.
