Credit Ratings: understanding FICO scores

September 17, 2012 | By

Understanding credit ratings is an integral part of having a successful credit repair program.

Without a fundamental understanding of credit ratings, a credit score can actually go down with the removal of the wrong bad credit entries. This is one of the main reasons why hiring a credit repair company carries high risk.

Few companies actually take a consumer’s credit score into consideration, and even fewer companies even understand credit scoring in any case. But don’t be disheartened, as you’ll soon have a better understanding of what entries to remove, and what entries to keep when performing credit repair.

FICO's decision to release detailed information about its credit scoring model in 2002 came as a result of intense pressure from Congress and consumer advocacy groups. It has given consumers a significant leg up. Now we don't have to make as many guesses about how to increase a credit rating.

For example, in the past it was assumed that a person's age played a role in scoring. This was a reasonable conclusion, since older people had better scores overall. But in reality, it's the age of the credit report that matters—an important difference. New knowledge such as this can prove very powerful in devising individualized tactics and strategies for improving credit scores.

Sophisticated software is used to determine a credit rating.

Credit ratings are derived using software that analyzes the data contained in a report. This software uses algorithms to come up with a solution for analyzing a finite number of variables. One big advantage to this is that everyone is treated equally by the software, as the software does not discriminate as people sometimes do; it is indifferent to someone's religion or hairstyle, for example.

Don't be alarmed when you order your credit reports and find that your credit scores from each of the credit bureaus are different. The discrepancies can be attributed in part to the fact that certain accounts either don't show up on each report or are reported differently. It's also because the bureaus use different scoring models.

It used to be that you could obtain a FICO score for each of the individual credit bureaus directly through the consumer arm of FICO, myFICO ( or one of its affiliates. That has since changed, since Experian no longer has a relationship with FICO. However, myFICO still sells the credit reports and scores for both Trans Union and Equifax. Equifax also sells Score Power, which is a FICO score, but also sells their own proprietary score. At this time, an Experian FICO Score is not available to consumers.

The scores sold by Experian and Trans Union are known as Vantage Scores. These are essentially useless, since they have not been widely adopted. FICO scores still factor in about 90% of loan approvals, and Vantage is used less than 10% of the time (as of July 2012; Craig Focardi, CEB TowerGroup, a financial services research firm). Vantage will not be addressed here, and discussing it will be a wasted mental exercise until greater adoption occurs.

Lenders may still obtain a FICO score for each of the Big Three on loan applicants, and those reports are named Beacon (Equifax), Classic (Trans Union), and Fair Isaac Risk Model (Experian).

In comparing FICO with other scoring models in the past, FICO seems to place more emphasis on recency of lateness. But if you can get your FICO score to within acceptable levels, then the other scores will likely follow suit. Gear your efforts toward FICO, and you'll come out ahead in the long run.

FICO has also released a newer version, sometimes referred to as NexGen but more often referred to as FICO 8. Most of its methodology remains the same, but it is more forgiving towards isolated late payments, ignores collection accounts that are less than $100, and no longer figures in piggy-backed accounts (authorized user accounts, which consumers would use to raise their credit score by becoming a user on another person's account with a stellar credit history).

Lenders use the FICO score primarily as a tool for early detection of potential credit problems. By analyzing past data, they believe they can predict future results.

This has some merit, but as with all computer algorithms, the FICO score isn't without flaws. Unfortunately, that's outside your control. For now, all you can do is play along. The name of the game is improving your credit rating!

National Distribution of FICO Scores
Figures 3 and 4: Copyright © 2005 Fair Isaac Corporation. Fair Isaac, the Fair Isaac logo, and the Fair Isaac product and service names are trademarks or registered trademarks of Fair Isaac Corporation.


By looking at previous credit report data and default rates based on that data, FICO believes that by matching an individual's credit report to those of other consumers with similar entries, it can more accurately predict default rates. They match people in this way and then assign them to categories. Based on the category in which the consumer is placed, he or she is then given a scorecard. Each consumer's credit history is initially assigned one of ten scorecards based on his or her worst credit entry and is sequentially passed through multiple scorecards. People who have filed for bankruptcy in the last year, for example, are assigned the worst initial scorecard, as are those with recent late payments.

This is why it's not necessarily beneficial to have all adverse entries drop off your report. Because of the way scorecards work, you may have worked your way up to the highest level within a given scorecard, and when entire tradelines fall off (due to the statute of limitations for adverse reporting, for example) you end up in a different, "better" initial scorecard, which can actually lower your score overall. That is, the lesser initial scorecard has a ceiling that goes higher than the floor of the next highest scorecard. People with a sparse credit history in particular are more susceptible to this anomaly, since the weight of a longer credit history counteracts the dropping off of an old account—one that is holding up a score because of its age. Yes, length of credit history counts substantially, which is explained shortly.1

FICO Score Range

FICO scores range from 300 to 850, and, assuming that your total debt-to-income ratio falls within the acceptable limits (i.e., your total monthly debt, including the new loan, doesn't exceed 45 percent of your gross income), a score of 720+ will get you approved with the best rates with a mainstream mortgage lender.

During the housing bubble, a 620 would easily get approval, and even a 500 score could get approval from B or C lenders (alternative loan, often referred to as "subprime"). That party is now over, which is a good thing, since such loans caused the crisis in the first place.

Most mortgage lenders will pull all three credit reports and scores and then use the middle score. Some will even take the average of the top two scores and throw out the worst. Reputable auto lenders will most often take the highest FICO score, though some banks and credit unions will only pull the reports from bureaus to which they subscribe. Find out in advance of any auto loan application by checking with the dealer's finance department (or the bank or credit union if you're obtaining the loan directly).


FICO's scoring summary ( lists five categories that affect a score: payment history, amounts owed, length of credit history, types of credit used, and new credit. Each category is further broken down into subfactors, for a combined total of 22 factors. The process of generating is a score is what FICO refers to as a "multi-variant analysis." I guess this is just a fancy way of saying that multiple variables are analyzed. Here is the exact language from FICO's Web site showing how each factor is weighted:

Payment History – [35%]

  • Account payment information on specific types of accounts (credit cards, retail accounts, installment loans, finance company accounts, mortgage, etc.)
  • Presence of adverse public records (bankruptcy, judgments, suits, liens, wage attachments, etc.), collection items, and/or delinquency (past-due items)
  • Severity of delinquency (how long past due)
  • Amount past due on delinquent accounts or collection items
  • Time since (recency of) past-due items (delinquency), adverse public records (if any), or collection items (if any)
  • Number of past-due items on file
  • Number of accounts paid as agreed

Amounts Owed – [30%]

  • Amount owing on accounts
  • Amount owing on specific types of accounts
  • Lack of a specific type of balance, in some cases
  • Number of accounts with balances
  • Proportion of credit lines used (proportion of balances to total credit limits on certain types of revolving accounts)
  • Proportion of installment loan amounts still owing (proportion of balance to original loan amount on certain types of installment loans)

Length of Credit History – [15%]

  • Time since accounts opened
  • Time since accounts opened, by specific type of account
  • Time since account activity

New Credit – [10%]

  • Number of recently opened accounts, and proportion of accounts that are recently opened, by type of account
  • Number of recent credit inquiries
  • Time since recent account opening(s), by type of account
  • Time since credit inquiry(s)
  • Reestablishment of positive credit history following past payment problems

Types of Credit Used – [10%]

  • Number of (presence, prevalence, and recent information on) various types of accounts (credit cards, retail accounts, installment loans, mortgage, consumer finance accounts, etc.)

FICO also says:

  • A score takes into consideration all these categories of information, not just one or two. No one piece of information or factor alone will determine your score.
  • The importance of any factor depends on the overall information in your credit report. For some people, a given factor may be more important than for someone else with a different credit history. In addition, as the information in your credit report changes, so does the importance of any factor in determining your score. Thus, it’s impossible to say exactly how important any single factor is in determining your score—even the levels of importance shown here are for the general population and will be different for different credit profiles. What’s important is the mix of information, which varies from person to person and for any one person over time.
  • Your FICO score only looks at information in your credit report. However, lenders look at many things when making a credit decision including your income, how long you have worked at your present job and the kind of credit you are requesting.
  • Your score considers both positive and negative information in your credit report. Late payments will lower your score, but establishing or reestablishing a good track record of making payments on time will raise your score.

Payment history accounts for 35 percent of the total score, meaning it's essential that you pay your bills on time and remove the worst of bad credit from your credit report. But the remaining 65 percent of the pie comprises amounts owed (30 percent), length of credit history (15 percent), types of credit used (10 percent), and new credit (10 percent). That means you can have a perfect payment history, and two-thirds of your credit score is still blowing in the wind! It's also important to note that since FICO bases its scoring summary on the average person, the weight given to certain factors can shift depending on the individual. For example, payment history might account for 70 percent of a total score if other aspects of the credit report warrant it- such as an abundance of new and subpar accounts or short age of the credit history.

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