Profiling the credit scoring system

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DamonCarrBox

Before I go into details about credit scores, let me first say that your focus should always be on raising your net worth as opposed to raising your credit score. A high credit score emphasizes you managing your debt. A high net worth emphasizes you eliminating your debt.

When you apply for a car loan, insurance, credit cards, personal loans or a home loan, etc. the loan officer will evaluate your FICO score also known as a credit score. There are many scoring models that exist. FICO, which stands for Fair Isaac and Company, named after it founders, is the most recognized scoring model of them all. A FICO Score or any Credit Score is a comprehensive, mathematical evaluation of your credit profile. It looks at various factors and forms an objective view of your credit behavior. The System measures your borrowing and payment patterns against a database of borrowing and payment patterns of the general borrowing population. It than develops a score ranging from 350-850. The higher the score, the more likely you will repay your debts on time, posing little risk to the lender/investor. The lower the score, the more likely you will default on your debts, posing great risk to the lender/investor. These FICO scores have proven to be accurate and most if not all lenders rely on them. A score of 680 and above is considered to be a good credit risk.

There are five factors that determine your FICO Score. The fact that you pay your bills on time will not guarantee you a high FICO Score. Your payment pattern does hold the strongest weight on determining your score.

Here are the factors that determine your Credit Score broken down by priority:

•35 percent of your score is based on your past payment history on existing account. Recent payment history is weighted more heavily.

•30 percent of your score is based on the amount you owe on your debt in relation to your credit limit or original balance.

•15 percent of your score is based on how long you been using credit.

•10 percent of your score is based on you researching for and/or obtaining new credit. Note: Be careful when shopping for credit. It can give a new meaning to the phrased “Shop to you Drop”. Many inquiries and/or many new credit accounts will result in lower scores.

•10 percent of your score is based on the mix of credit you hold, including credit cards, installment loans, leases, and mortgage. Note: It is better to have a healthy mix of credit Vs having too many of a particular credit.

Bankruptcies, judgments, collection accounts, and accounts written off as a profit or loss are an indication of not making timely payments and results in reduced scores.

There have been many debates about whether or not the Credit Scoring System is adverse against Black people and other minorities. Based on my experience, I would have to say the Credit Scoring System is fair. Here is the basis for my reasoning. Most mortgage companies offer a free credit analysis. The credit analysis is free for the applicant but it’s not free for the mortgage company. A tri-merge credit report cost anywhere $15-$60 per person. Therefore a tri-merge credit report for a married couple cost anywhere from $30-$120. On average, a loan officer takes about six applications per day. Some may qualify. Some won’t. Some may be interested in the loan they qualify for. Some may not. While the average loan officer takes six applications per day, only two maybe three of those applications may turn into a deal per week. Let’s do the math. That’s 30 applications per week and only three actually turn into a deal. While working for other mortgage companies, I pulled a credit report on every person I talked to. It did not matter much to me since I did not have to pay for it. But as an owner of a mortgage and financial planning company, I have a whole different mindset. Credit reports I pull have a direct affect on my bottom line. As a result, I had to figure out a way to offer a free credit analysis and somehow, someway mitigate the cost.

The solution: I studied the factors that determine the credit score as well as a host of other things, which makes a borrower a good or bad credit risk. I also reviewed files that I had previously worked—evaluating their payment and borrowing habits and their credit score. Before I consider pulling a credit report, I ask questions that I will be looking for on a potential customer’s credit report. I ask them questions based on factors that the scoring systems use to determine a credit score. I work with people of all ethnic backgrounds. I am now at a point where I can extrapolate a range the applicant credit score will fall in. I know whether or not it‘s worth incurring the expense and pulling a credit report. I have grown so comfortable with this process that I sometimes pull a person’s credit report at the last minute. I have never had a mortgage application fall through since I have been using this approach.

Below are some tips to help you retain or regain good credit scores:

•Correct Errors on your credit report

•Pay your bills on time

•Pay off delinquent accounts

•Don’t max out your credit cards (never allow balance to equal more than 30 percent of the limit)

•Don’t apply for credit too often (a lot of inquires and new accounts can reduce your scores)

•Don’t have an abundance of open credit cards and installment loans (three trades is more than sufficient)

•Use credit only when absolutely necessary

For more on FICO Scores visit http://www.myfico.com

(Mortgage and Money Coach Damon Carr is owner of ACE Financial. Sign up for Damon’s free “Ask Damon” e-Newsletter @ http://www.allcreditexperts.com. He can be reached at 412-856-1183.)

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