What is a FICO score and how is it calculated?

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  • Developed by Fair Isaac Corporation, FICO is the oldest and most widely used credit scoring model.
  • Your payment history and debt are the most important factors in calculating your creditworthiness.
  • FICO 10T, the latest generation of the credit scoring model, takes your monthly balances into account over the last 24 months.

When a lender looks at your credit history, there’s a good chance they’re looking at your FICO score. This helps financial institutions and lenders assess your creditworthiness and set interest rates or loan terms that match your score. Credit scores range from 300 (extremely bad, very limited credit opportunities) to 850 (excellent credit opportunities) and fluctuate based on a variety of things, such as credit accounts and more.

The three credit bureaus — Experian, TransUnion, and Equifax — each create a consumer credit score based on your purchase and payment history, and these ratings use the FICO rating system.

What is a FICO score?

FICO is a credit scoring model that takes information about your credit report and condenses it into a single three-digit number. It is named for Fair Isaac Corporation, the company that first developed the numerical credit rating system in 1989. However, the data analytics company rebranded the company to FICO in 2009.

A three decade old credit scoring model, FICO is the most widely used credit scoring model on the market. FICO estimates that about 90% of lenders use their ratings to decide how much credit to extend to consumers and how much to charge them for it.

Your FICO score may be different at each bureau, as each agency may have slightly different information about your credit history (although it should be fairly similar – if you notice a big discrepancy, call the bureau to find out what’s going on) and you can have more than one FICO score with one agency, depending on what type of loan you applied for.

While you have separate FICO scores from each bureau, you also have different FICO scores based on your FICO generation. There are 10 iterations of FICO named FICO 1-10. The most commonly used versions for general lending are still FICO 8 and 9, although FICO 10 is coming out in 2020.

Credit card companies and auto lenders also use FICO 8 and 9, but have versions specific to their respective industries: FICO Bankcard and FICO Auto. Mortgage lenders generally use earlier generations of FICO, known as classic FICO. These include FICO 2, 3 and 5 depending on the Schufa.

Trended credit data and FICO 10T

When FICO published FICO 10 in 2020, it also published FICO 10T. This credit scoring model looks at your monthly loan balances over the last 24 months as an indicator of future performance, also known as trend data. To keep your FICO 10T score high, you must carefully monitor your credit card balances month-to-month.

You don’t have to worry about that for a while since FICO 10T isn’t widely used yet. In addition, FICO also published a FICO 10 that does not use trend data. However, the Federal Housing Finance Agency only announced in October 2022 that Freddie Mac and Fannie Mae will require the use of FICO 10T, which will take several years to implement.

What is a good FICO score?

FICO divides its 300-850 series into five risk categories. In ascending order, these are poor, fair, good, very good, and excellent. A good FICO score, according to the official range, is between 670 and 739. For each risk category and its corresponding scoring range, see below:

Although FICO officially has a “good” category, that doesn’t necessarily mean you can qualify for great prizes. For example, in the auto loan industry, super prime customers must have at least a 780 for the best interest rates.

Since April 2021, the average FICO score for a U.S. loanholder reached an all-time high of 716, where it remained through April 2022. Consumers are becoming more aware of the dynamics of holding and building credit and making fewer arrears mistakes and making wiser decisions for their financial health.

The best way to make these decisions is to understand what goes into your credit score in the first place. Let’s take a look at these components and what they could mean for your loan. Here’s some information about what things contribute to your credit score, what can cause a sudden drop, and how you can work specifically to improve your credit score over time.

How is a FICO score calculated?

The exact algorithm used to calculate FICO is a closely guarded secret, but we have a general overview of how your credit report is aggregated into your FICO score.

payment history

FICO heavily considers your payment history in your overall score. This is perhaps the most obvious – if you keep falling behind on your payments, your credit score will suffer. This portion of your score is based on your late payments, on-time payments, and bankruptcies in your credit history.

Amounts Owed

Your owed account is another important part of your FICO score. While using credit wisely (eg, paying off your credit card balance in full each month and not charging more than you can afford) can improve your credit score, a high debt-to-credit ratio can hurt your FICO score.

The term debt-to-credit ratio refers to the amount of money you owe compared to the amount of credit your lenders have extended to you (your credit limit); Your debt-to-credit ratio should never exceed 30% to keep your credit score in good shape, although it’s best to hover around 1-10%.

Other factors to consider here are what percentage of your mortgage or car loan you have paid off and how many of your accounts have balances.

Credit history length

If you’re a new borrower, don’t expect to start with a perfect 850 credit score. On the contrary – it is your responsibility to prove your creditworthiness and you are basically starting from scratch. Setting up your accounts and making payments on time improves your credit score.

Whether you’re new to credit (say, a young person or a recent immigrant) or have a long credit history, it can be a good idea to hold on to healthy old credit accounts even if you don’t plan on abandoning them use to avoid sudden changes in your credit score. Closing accounts that have established and maintained your FICO score can end up lowering your score.

Badly closed credit cards stay on your credit report for 10 years. That means the account is paid in full. Leaving it alone without closing it can keep your credit score healthy (as long as you don’t pay an annual fee just to keep your account open).

credit types

There are two main types of credit: revolving credit and installment credit. An installment loan is essentially a loan that is no longer available after repayment. For example, if you take out a loan from the bank, that loan will not be replenished once you have paid it off in full; this is an installment loan.

The second type, revolving credit, is credit that becomes available again after repayment. Credit cards are revolving credit because you can pay them off and use them again immediately.

Diversifying your credit is a healthy strategy as long as you can keep track of payments and interest rates, and this can be done through mortgages, personal accounts, credit cards, and more.

new credit

The frequency with which a tough request is made on your account will affect your credit score as well as the number of new lines of credit you open.

Opening a new account before you get to grips with old accounts can negatively affect your credit score as it increases the amount borrowed even if it hasn’t been spent yet. On the other hand, the opening of credit lines is necessary in order to establish a loan at all. Therefore, it is best to open a new line of credit only if the benefits of that line outweigh the adverse effects, you are on schedule with the payments, and you can stay on schedule with the new line.

How to improve the FICO score

First and foremost, avoid late payment at all costs. Pretty much everyone misses a payment at some point; The average resident of a major US metro area has an average of six defaults in their credit history. Most banks and lenders now have automatic, paperless payment options that allow consumers to set up payment plans in just minutes. Use these options if you tend to be forgetful, as missed payments can severely affect your credit score and even prevent you from being approved for lines of credit in the future.

Be aware of interest rates and possible annual fees, and avoid paying too much interest on your loans by having a balance of 30% or less.

It’s good to eventually diversify your credit to build credit across the board, but start with just a line or two to get established. It’s easy to get sucked into the credit card game because of its potential to earn great rewards, but you don’t want to lose control.


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