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Fair Isaac Corporation (NYSE: FICO) provides analytics and decision making services—including credit scoring -intended to help financial services companies[citation needed] make complex, high-volume decisions. - Wikipedia
Investopedia explains FICO Score: Using mathematical models, the FICO score takes into account various factors in each of these five areas to determine credit risk: payment history, current level of indebtedness, types of credit used and length of credit history, and new credit.
A person's FICO score will range between 300 and 850. In general, a FICO score above 650 indicates that the individual has a very good credit history. People with scores below 620 will often find it substantially more difficult to obtain financing at a favorable rate.
Articles of interest:: Anatomy
Of A Credit Score // How
Fair Is Fair Isaac? (By Jane Black) |
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Anatomy Of A Credit
Score
More companies
are looking at ratings -- so managing them is crucial
During a shopping spree a few months ago, I opened several retail
credit-card accounts to take advantage of an immediate 10%
discount on that day's purchases. Surely this familiar offer
was risk-free as long as I paid my bills on time, right? It
wasn't until I reported this story that I found out my credit
score could have been negatively affected by the spate of
new accounts I opened in such a short time. I had no idea.
Many people are ignorant of what their credit score is, how
they can hurt or help that score, and how it can be used against
them. Some 49% of 1,013 consumers polled do not understand
that credit scores measure credit risk, according to a 2005
survey by the Consumer Federation of America and Fair Isaac
Corp., the company that created the most widely used credit
score formula called FICO.
Lenders have used these scores for years to determine whether
to grant you a loan and what interest rate you'll pay. "Credit
scores are very powerful predictors of consumers' future [bill-paying]
performance," says Mike Fratantoni, a senior research director
at the Mortgage Bankers Assn. But with the rise of technology
that can automatically assess consumer creditworthiness while
you wait, FICO scores are now requested by insurance companies,
cell-phone providers, utilities, landlords, and even prospective
employers. That's a reason to make managing your FICO score
a priority.
But first, just what is a credit score? To come up with one,
Fair Isaac uses 22 pieces of data collected from the three
major credit bureaus (Equifax, Experian , and TransUnion)
to calculate a credit score -- 300 is the lowest, 850 the
highest. The final number is a composite that comes from individual
ratings in five categories: payment history (35% of the rating);
length of credit history (15%); new credit (10%); types of
credit used (10%); and debt (30%). Income is not a factor.
"A person can have a very high income and never pay their
bills," said Craig Watts, public affairs manager for Fair
Isaac.
Fair Isaac calculates a FICO score based on the data provided
by each credit bureau. It's not uncommon to see up to a 50-point
differential between ratings. The reason: Bureaus collect
data at different times of the month, or one bureau may have
inaccurate information.
The higher the score, the lower the risk you are to a creditor
-- and the less interest you'll pay. Only 13% of the population
has FICO scores of 800 or above; the median is 723. There
is no single cut-off for loans, and it varies from industry
to industry. But generally borrowers with scores above 740
receive the best rates.
To see how a change in your FICO score affects how much you'll
pay, consider this example. On a $350,000, 30-year fixed mortgage,
you'll pay 6.24% in interest, or $2,153 a month if you score
between 720 and 850. If your score drops to between 620 and
674, your interest rate jumps to 8.05%, and your monthly cost
rises to $2,581. You will pay an additional $154,131 over
the life of the loan, according to a calculator on myfico.com.
WATCH YOUR WORTHINESS
Want a peek at your FICO scores? Many people think they can
get their FICO scores from their credit reports. They can't
-- but it's still a good place to start. The Fair & Accurate
Credit Transactions Act of 2003 entitles you to a free credit
report from each major credit bureau once a year. I ordered
my reports by telephone from annualcreditreport.com and received them all within 10 days. It's
smart to request a report from a different agency every four
months so you stagger the reports over a year. That way, if
there's bad information in one, you'll spot it sooner.
When you request a free credit report, each bureau will offer
to calculate a credit score for $6.95. Experian and TransUnion
use proprietary formulas; Equifax uses FICO scores. Pass up
these offers because the information is not as comprehensive
as you'll get elsewhere, and lenders are less likely to look
at these scores.
For the most detailed explanations on your FICO scores, go
to myfico.com. A score from one credit bureau costs $14.95, all three
are $44.85. It's useful to buy all three because large lenders
either average the scores or take the middle one. You'll want
to check your FICO scores once a year or several months before
you apply for a loan.
The negative factors that bring your score down remain on
your credit report for seven years and can adversely affect
your FICO score. But lenders typically look back only in the
past two years when they make credit decisions. One 30-day
late payment shouldn't make a difference. Lenders look for
trends.
I paid for three scores and anxiously waited while the computer
calculated them on the spot. Within seconds, I was relieved
(not to mention a bit proud) when 771, 751, and 738 popped
up on my screen. Still, I wondered why I wasn't in the 800-plus
range. To find out, I reviewed the various strategies credit
experts recommend to raise FICO scores.
Pay all bills on time. This is probably the most important
factor in the FICO calculation. If you're consistently 30
days overdue, your score can drop by as much as 100 points,
depending on how long the account has been open and how long
ago the late payment took place. To avoid late payments, consider
automating your bill-paying process. I got high marks in this
arena.
Think twice before closing accounts. Lenders are looking
for consumers with long credit histories that have been managed
well. But because of the increase in identity theft, you don't
want too many open accounts that you don't use. "Be judicious
about the accounts you have," says Norm Magnuson, public
affairs officer for the Consumer Data Industry Assn. In an
effort to consolidate our finances, I canceled an American
Express account I had for 20 years to become an authorized
user on my husband's account. While I benefit from his 20-year
credit history on that account, it was still a mistake to
eliminate my own. I have a few cards in my name only, but
the history isn't as long.
Minimize credit-card applications. Bingo. That was
cited as a problem on all three of my FICO scores. On average,
a consumer has a total of 11 credit obligations, of which
seven are credit cards and four are loans. I had 21, of which
six had balances. Each time you apply for credit, a lender
requests to view your report. This inquiry is noted and can
reduce your overall score. Don't apply for unnecessary credit,
and if you're in the market for a big-ticket item that requires
a loan, avoid credit applications for 18 months prior to your
purchase.
Keep balances low. The FICO score evaluates your total
balances in relation to your available credit. This is known
as credit utilization. Credit cards that are "maxed out" can
lower your score. Try to spend only 30% of your credit limit.
If you have a $10,000 limit on one card, keep the balance
near $3,000. My credit utilization was too high. It helps
that I pay off my balances every month, but it is better to
spread the spending.
While my FICO reports said that "most lenders would consider
consumers in this score range as extremely low risk,"
the competitive spirit in me wants to get over the 800 mark.
To that end, I recently refrained from signing up for a Target
Stores credit card to get $10 off on a $100 purchase.
Article
source: BusinessWeek
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How Fair
Is Fair Isaac? (By Jane Black)
The secrecy
surrounding the company's proprietary credit-scoring system
is sparking a firestorm of criticism -- and legislative action
When Elizabeth Alexander opened a letter from her auto insurer,
Pemco, last January, she got a nasty shock. Her rates had
been raised by 33%, from $1,200 to $1,600 per year. The increase
was a surprise because neither Alexander nor her husband,
Larry Jackson, had been in an accident or placed a claim at
any time during their six years with Pemco. Outraged, the
Kirkland (Wash.) couple called around to a few other insurance
companies to try to get a better rate. But the competition's
rates were even higher.
The reason? Jackson's credit status. Last year, he had a dispute
with his bank over a student loan, which led to a black mark
on his record -- and the subsequent rate hike on the couple's
auto insurance. Such decisions are anything but unusual. According
to Conning & Co., a Hartford (Conn.) research firm, 92%
of insurers use credit scores as a factor to grant policies
and set rates.
"I've been driving since I was 17. Now I'm 42, and I've never
had a claim against me," says Alexander, a program manager
at Microsoft. "Not-so-perfect credit doesn't mean I'm a bad
driver. In fact, all the evidence shows that I'm a good driver."
LEGAL RESPONSE. Alexander isn't alone. Since January, 2001,
hundreds of Washington State residents have complained to
the state insurance commissioner that their rates were being
unjustly hiked. In response, the state House and Senate overwhelmingly
passed bills to prevent insurers from using a consumer's credit
score to cancel or not renew personal-insurance policies.
The bills also outlaw the use of six factors, including the
number of credit inquires and the consumer's available line
of credit, in assessing policies and rates. Washington Governor
Gary Locke signed the bill into law on Apr. 4.
The issue is fast becoming one of the hottest topics in state
legislatures across the country. Hawaii and Connecticut have
also passed legislation aimed at curbing the use of credit
scores in insurance underwriting, and 21 more states have
bills pending.
At the center of the storm is little-known California company
Fair Isaac , number 50 on the S&P SmallCap 600. Fair Isaac
creates the credit scores, known as FICO scores, that tell
lenders whether a consumer is a good credit risk. Scores range
anywhere from 300 to 850. The higher the score, the better
the credit risk. A consumer with a FICO score of 700 will
pay approximately $382 per month for a $20,000 auto loan over
60 months, according to E-LOAN, a California-based Internet
lending institution. The same loan for someone with a score
of 680 costs $393, while a borrower with a FICO of 580 will
pony up $495.
"SUBJECTIVE GUESSWORK." Just what goes into a consumer's
score is anyone's guess -- because Fair Isaac isn't telling.
The company maintains that its formula, which is used by the
vast majority of lenders and 380 insurance companies, is proprietary.
According to Fair Isaac spokesman Craig Watts, the algorithm
must be protected so that consumers do not artificially inflate
scores in the short term to, say, get a cheap loan and then
return to their former profligate ways.
And therein lies the problem. "The word 'score' implies that
something empirical is being measured, like body-fat percentage
or cholesterol," says privacy-rights consultant David Holtzman.
"In fact, FICO-like scores are based on highly subjective
guesswork that might be offensive and possibly legally actionable
if they came from a human being instead of a computer." As
data profiling becomes more common, expect Fair Isaac's power
-- and the consumer outcry about its secrecy -- to grow.
The insurance hubbub isn't Fair Isaac's first run-in with
privacy advocates. In September, 2000, it was hauled in before
a congressional subcommittee to explain why consumers don't
have access to their FICO scores. This came after Fair Isaac
pressured E-LOAN to stop making client FICO scores available
free of charge.
PARTIAL
PEEKS. Fair Isaac claimed the service was misleading because
it presented the scores out of context. But E-LOAN CEO Christopher
Larsen says that's absurd: "Our model is to help consumers
manage their debt just as they manage their stock portfolio.
That makes understanding and managing FICO scores the cornerstone
of our business."
As a result of the hearings, Fair Isaac is becoming more consumer-friendly.
Last year, it launched a Web site called myfico.com that allows
consumers access to their credit report and FICO score for
a fee of $12.95. Next month, Fair Isaac will launch a simulator
to help consumers figure out how to improve their scores --
something the company had previously claimed was impossible
to do. For instance, the site will tell consumers how opening
a new credit-card account or paying down some debt will affect
their FICO score.
Fair Isaac's move toward what it calls consumer-empowerment
services aren't motivated solely by good will. Company CEO
Thomas Grudnowski estimates that industrywide revenues from
the consumer business will one day total $500 million to $1
billion a year, vs. very little now. "A year ago, no one at
Fair Isaac would say that consumer business would be a big
part of the business. Now, the answer is maybe," says spokesman
Watts.
TEMPLE EDICTS. Consumer advocates say these efforts don't
go far enough. Larsen and others argue that a federal law
is needed that gives consumers the right to a free copy of
their credit score -- as well as a detailed explanation of
how the score is computed. "Fair Isaac wants to be the high
priest in the temple and issue edicts without anyone understanding
what's going on," says Edmund Mierswinski, a consumer-credit
expert with the Ralph Nader-affiliated U.S. Public Interest
Research Group. "We need to know how the scores work. We need
to know if they're accurate. We need to know if they're discriminatory."
That's even more important when the score is used to make
decisions about issues like insurance, which are less closely
tied to credit history -- if at all. "They need to make it
transparent -- to remove the secrecy so that the public has
an idea how [the information is] being used," says Washington
Insurance Commissioner Mike Kreidler, who led the charge to
pass the state's new law. "That would ease the problems of
outright unfairness we found, as well as the perception of
unfairness." A simple solution to a growing problem.
Article
source: BusinessWeek
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