A FICO score is primarily used in credit decisions made by banks and other providers of secured and
unsecured credit to deny or provide credit to a loan applicant. It determines whether to charge him/her high or low rate auto loan .
FICO is the acronym for Fair Isaac Corporation, a publicly-traded corporation (under the symbol "FIC") that created the best-known and most widely used credit score model in the United States. The FICO score is calculated statistically, with information from a consumer's credit files. But this type of credit scoring is only one of several that are available but it is the most popular and most widely-used.
In the U.S., three credit reporting agencies, Equifax,Experian, and TransUnion, calculate a borrower's credit score using their own different computation formulas. FICO scores have different names at each of them but all of these scores are developed using the same methods by Fair Isaac, and have been rigorously tested to ensure they provide the most accurate picture of credit risk possible using credit report data.
The scores they generate (with trademarked names), differ in what they mean to predict, the statistical methods used to determine a credit-worthiness score, and what data are used and how they are weighted. Beacon, Beacon 5.0, Beacon 96, and Pinnacle scores are available only from Equifax; Empirica, Empirica Auto 95, Precision Score, and Precision 03 from TransUnion; and the Fair Isaac Risk Score is available from Experian. Although the Fair Isaac Corporation develops these credit score versions for the different agencies, they are different numbers, and are periodically updated to reflect current consumer loan repayment rates.
The NextGen Score is a scoring model designed for assessing consumer credit risk. It is similar to the traditional FICO scores with regard to intended use and general design. It has not enjoyed the same level of adoption as the traditional FICO score, but is used by some creditors. Other credit consumer scores are published by MyFICO.com and by Community Empower, as the CE Score.
In 2006, in attempting to make scoring consistent, the three major credit-reporting agencies introduced VantageScore. VantageScore uses a number range (501 to 990), which is different from FICO score, and assigns letter grades (A to F) to specific score ranges. A borrower's VantageScore may differ from agency to agency, but discrepancies stem from data differences in the reported credit information, not because of differences among credit-scoring mathematical models. Since FICO score remains as the most widely-used score by money lenders, the agencies continue offering FICO scores or similar.
A FICO score is between 300 and 850 with 60% of scores between 650 and 799. According to Fair Isaac the median score is 723 (half of scores above and below) whereas according to Experian (using the Fair Isaac risk model) the average credit score is 678 (lowest scores are farther from the median than the highest scores). The performance of the scores is monitored and the scores are periodically aligned so that a credit grantor normally does not need to be concerned about which score card was employed. Based on this, it is any creditor's aim to improve credit score which is to his advantage.
Credit scores are designed to measure the risk of default by taking into account various factors in a person's financial history. Although the exact formulas for calculating the scores are closely guarded secrets, the Fair Isaac Corporation has disclosed the following components and the approximate weighted contribution of each:
35% — punctuality of payment in the past (only includes payments later than 30 days past due)
30% — the amount of debt, expressed as the ratio of current revolving debt (credit card balances, etc.) to total available revolving credit (credit limits)
10% — types of credit used (installment, revolving, consumer finance)
10% — recent search for credit and/or amount of credit obtained recently
The above percentages provide very limited guidance in understanding the FICO score. For example, the 10% of the score allocated to "types of credit used" is undefined, leaving consumers unaware what type of credit mix to pursue. "Length of credit history" is also unclear; it consists of multiple factors — two being the oldest account open and the average length of time an other accounts have been open. Although only 35% is attributed to punctuality, if a consumer is substantially late on numerous accounts, his FICO score will fall far more than 35%. Bankruptcies, foreclosures, and judgments affect scores substantially, but are not included in the somewhat simplistic pie chart provided by Fair Isaac.
Current income and employment history do not influence the FICO score, but they are weighed when applying for credit. For instance, an unemployed individual with no sources of income will not usually be approved for a home mortgage, regardless of his or her FICO score.
There are other special factors which can weigh on the FICO score.
Any money owed because of a court judgment, tax lien, or similar carry an additional negative penalty, especially when recent.
Having more than a certain number of consumer finance credit accounts also carries a negative weight.
The number of recent credit checks also can weigh down the score, although credit reporting agencies usually claim to allow for credit checks made within a certain window of time not to aggregate, so as to allow the consumer to shop around for rates
Credit scores give lenders a fast, objective measurement of your credit risk. Before the use of
scoring, the credit granting process could be slow, inconsistent and unfairly biased.
Credit scores – the FICO score, the most widely used credit bureau scores – have made big improvements in the credit process. Because of credit scores:
People can get loans faster. Scores can be delivered almost instantaneously, helping lenders speed up loan approvals. Today many credit decisions can be made within minutes. Even a mortgage application can be approved in hours instead of weeks for borrowers whose FICO score is above a lender's “score cutoff”. Scoring also allows retail stores, Internet sites and other lenders to make instant auto loan credit decisions.
Credit decisions are fairer. Using credit scoring, lenders can focus only on the facts related to credit risk, rather than their personal feelings. Factors like your gender, race, religion, nationality and marital status are not considered by credit scoring.
Credit “mistakes” count for less. If you have had poor credit performance in the past, credit scoring doesn't let that haunt you forever. Past credit problems fade as time passes and as recent good payment patterns show up on your credit report. Unlike so-called “knock out rules” that turn down borrowers based solely on a past problem in their file, credit scoring weighs all of the credit-related information, both good and bad, in your credit report.
More credit is available. Lenders who use credit scoring can approve more loans, because credit scoring gives them more precise information on which to base credit decisions. It allows lenders to identify individuals who are likely to perform well in the future, even though their credit report shows past problems. Even people whose scores are lower than a lender's cutoff for “automatic approval” benefit from scoring. Many lenders offer a choice of credit products geared to different risk levels. Most have their own separate guidelines, so if you are turned down by one lender, another may approve your loan. The use of credit scores gives lenders the confidence to offer credit
to more people, since they have a better understanding of the risk they are taking on.
Credit rates are lower overall. With more credit available, the cost of credit for borrowers decreases. Automated credit processes, including credit scoring, make the credit granting process more efficient and less costly for lenders, who in turn have passed savings on to their customers. And by controlling credit losses using scoring, lenders can approve low rate auto loan overall. Mortgage rates are lower in the United States than in Europe, for example, in part because of the information - including credit scores - available to lenders here. Knowing and aiming to improve credit score can also lead to more favorable interest rates. Check out an example of the national averages of interest rates and see exactly how much money you might be able to save.