Small Business

Your Credit: What's in a Number?


Unlike the person who orders sausage, someone who orders his credit score will probably want to know how it was produced. Most in the credit industry agree that the number doesn't mean much to the consumer without some accompanying explanation of the main considerations influencing a particular score.

The formula used by the three major credit bureaus and emulated by iPlace Inc., which provides credit scores to consumers online, is based on information in a credit report. The exact formula -- developed by Fair, Isaac & Co., and known as the FICO score -- is a company secret. The iPlace formula, too, is proprietary. "That would be like giving the recipe for the secret sauce," says Laurie Edwards, iPlace's vice-president for communications.

ADDING IT ALL UP. What credit-score providers will do, however, is discuss the information that influences their rating numbers. Those who offer credit scores to consumers, and those who expect to do so soon, all say the main reasons for each client's score will be clearly spelled out.

According to Myvesta.org, a nonprofit organization for people in credit trouble, these are the main factors influencing credit scores:

Payment history. Have you been delinquent on any bills? If so, how recently? How frequently? What is the proportion of late payments to on-time payments? The explanation that accompanies an individual's credit score might point out that it is not as harmful to miss payments on accounts with low balances rather than high ones because lenders stand to lose less money on low balances.

Outstanding debt. Are you close to or beyond your credit limit? How much credit is available to you, even if your balances currently are low?

Credit history. How long have you had various accounts? Fewer than five credit lines in the last two years is considered a short history. How many new accounts have been opened recently? How many inquiries (requests for credit) have you made in the last year? All these considerations matter because, statistically, people anticipating a financial downturn try to increase the amount of credit they have available.

Type of credit. Are your accounts installment loans, bank cards, personal-finance company loans, department-store cards, or mortgages? In general, diversity is a positive factor.

Public records. Court judgments such as liens or bankruptcies are strong negatives, as are accounts turned over to collection agencies.

The factors in credit-scoring are relative: One negative item can have a small or large impact on an individual score, depending upon how it balances with all the other factors in that person's credit report, says Myvesta.

The FICO credit score does not consider income or assets, occupation, employer, or employment history. Nor does it consider the interest rate on your credit cards, although individual lenders are likely to consider some or all of those facts. Neither credit scores nor credit reports consider race, religion, gender, marital status, or age.

CHANGING PICTURE. The definition of a good score will vary with the type of loan (mortgage, credit card, auto) and the individual lender. On the FICO scale of 375 to 900, a score of 650 or higher is considered excellent by most mortgage lenders, says Myvesta. Also, the importance of a score will vary from lender to lender, and sometimes is only one piece of the puzzle upon which credit decisions are based.

Credit scores change whenever information in the report is updated -- if a loan is paid off, for example, or a mortgage is added. In addition, a spokesman for Fair Isaac says the FICO formula is revised regularly to reflect current lending patterns. He adds that only information statistically proven to predict future credit performance is used in the score. By Theresa Forsman in New York


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