These two painful words and three painful digits… Unfair is another word that you hear a lot next to them. Why unfair? Why do many people feel that their credit score is rather random than calculated according to some consistent rule and/or some common sense? Let’s take a closer look.

The Fair Isaac Corporation developed software for calculating the score. That is why it is called the FICO score. The Fair Isaac Corporation is only the author of the software, though. The score is actually calculated by the three responsible bureaus: Equifax, Experian and TransUnion. Ideally, all credit granters are expected to report their borrowers’ credit activities to all the three bureaus. The bureaus collect the information (independently) and produce a credit report each for anyone with a credit history. Each individual credit user can request one credit report a year from each bureau without any charges. For the most reliable information about how to do it, read the government page.

Even if you are not planning to take out a loan, it is recommended to request all the three reports every 12 months and study them thoroughly. Your credit score, when you need it, will be derived from the data in these reports, so it is very important to make sure they are accurate, and correct the mistakes, if any, as soon as possible.

The three reports, as they arrive, may differ in the information presented. The reason for that is usually the simple fact that some creditors do not report your credit activities to all the three bureaus. Some action may appear in one report, while one or both others will lack it, and vice versa. Not only the credit usage information - everything has to be checked, even the spelling of your name, the date of birth, all addresses. People with common names should be especially thorough - a computer database is a very useful tool, but there is little intellect to it. It may so happen that your most precious paid off car loan may go to somebody else with a similar name, or you can bump into a delinquency reported on your name, even though you never had one. Or maybe you did, but were totally unaware of that!

The example of such an unaware chain of delinquencies is a skipped mortgage payment. For example, you skip your payment in May. Delinquency. Then you pay your regular monthly amount in June. However, the system of amortizing a mortgage works in such a way that your June amount is used to pay off the May debt, but then there is no money left for actually the June period payment itself. Delinquency - 2. If the next month you don’t pay 2 monthly amounts, it will result in delinquency - 3, etc. The worst of all is that you may not even know about it until you see ten delinquencies in a row in your report. Such a turn can kill your score.

The score is important. Anyone who has shopped for a mortgage knows how important a borrower’s credit score is. It determines the loan interest rate range you fall into. The higher the score - the lower the rate. A high score implies that you are trustworthy and capable as a borrower. A delinquency of any kind does not improve your image.

What does?

The FICO score ranges from 300 to 850. Most people have a score somewhere in-between 600 and 700. Generally, 650 and above makes you eligible for lower interest rates on various mortgage loans. The official www.myfico.com provides an up-to-date chart with the score-to-rate correlation. As you can see, the score of 760 usually already provides the lowest rate and any further improvement in the score will not lower the rate, but can allow for other advantages regarding, for instance, the down payment or other negotiable items. Those who score below 620 will not be so fortunate with the interest rate, but it’s only at the mark of 580 that the trouble begins - you fall into the sub-prime market, which usually means high interest rates and other unfavorable conditions. Many potential borrowers with a credit score below 580 and no hope to improve it within some reasonable time go for FHA-insured mortgages, if they can. These mortgages are not radically cheaper, but they do provide certain advantages.

A homebuyer, who has a hope to improve his credit score, has to work really hard to attain the goal - to prove he is a reliable and trustworthy borrower. The prove that counts is one’s credit history, i.e. the information reported to the three bureaus mentioned above. Most of the score is built on the credit card history, that is why it is so important to manage your cards wisely. The most important rule is very simple - pay on time. A history of consistent regular payments improves your score. Any delinquent payment reduces the score and stays on the record for 7 years even though you will have paid it off by then or a lot sooner.

Another very important factor is the utilization ratio. Most credit cards have a credit limit. Say, you have a card with a $5000 ceiling. If you charge $1000 on this card, its utilization ratio is 20%. The highest ratio recommended in order not to upset your credit score too much is 40%. As you understand, the lower the ratio - the better credit information it generates. If you have several cards, try to stick to this 40% rule - the fact that you don’t charge more on credit cards suggests that you neither need nor want to get yourself in debt. There are a couple of issues regarding the utilization ratio, though:

1) Some credit card issuers do not report the credit limit you have on your card to the bureaus; consequently, the bureaus cannot derive the correct ratio. If no limit is provided by the grantor, the bureau assumes that the highest amount ever charged on the card is the limit, so if you never charge more than $2000 on your $5000 card, the bureau will regard $2000 as your limit and will wrongly register the utilization ratio of the card as 100%! A huge damage to your credit score! What can you do about it? First of all, do not open accounts with granters, who claim to offer an unlimited credit. “Unlimited” does not make any 100%. Second, make sure that all the limits on all your cards are reported accurately. That’s where the credit report, the one I mentioned before, the one you can order from all the three bureaus for free, comes handy. If you see any errors, contact the bureau and have them corrected as soon as possible. Be sure to contact exactly the bureau in whose report the error occurs. The bureaus are independent from each other and are not responsible for each other’s mistakes.

2) Credit grantors love fine print, the finer the better (for them). In too many cases it reads that the credit card issuer has the right to increase the interest rate or lower the credit limit at will. Some issuers are not shy to exercise this right. You will get a disclosure in your mail all in seven-point font, which is extremely hard to read, notifying you of the changes, but will you read it? Please, do! Get a magnifying glass (literally!) and please read it. Remember - you are entitled only to one free credit report a year; if a credit card’s terms change unfavorably soon after you received your report and you pay no attention, you will be working against your credit score unawares for a whole long year. There will be no error in the new report, it will just be based on the card’s new terms that you knew nothing about and did not adjust your credit behavior accordingly to keep the balance within the boundaries that do not hurt the credit score. You will not be able to just have it corrected! You will have to work yourself again to reestablish the score. Sometimes such unexpected changes in terms are extremely unfavorable for the consumer. Angry, people decide to cancel the whole account, which is an emotional (and seemingly logical) thing to do, but not very rational from the point of view of the credit score benefit. In fact, the older the account or the larger the credit limit on that account, the larger damage to your score will be done by its closing. So, if you are about to start shopping for a loan of some kind - keep this account, get your loan and then close the account. The closing will stay on the credit record for some time, but will probably lose its force by the time you need your FICO score again.

3) If you are stuck with an “unlimited” card, you can try and create a virtual limit yourself by accumulating the amounts owed from several other accounts onto this account temporarily so that its highest balance comes close to the desired maximum. Do not just charge a million on this card - you’ll have to pay it back! Besides, it will increase the total amount owed, which will immediately lower the score.

As to the number of cards, experience tells us, that the most approved by the score calculating program number of cards is 4 or 5. The cards have to be active (used within past 6 months), preferably old and with a small outstanding balance. If you have more cards and wish to close some in order to improve your score, make sure you are closing the newest ones and do not increase utilization of the remaining ones. If you want to open several new accounts, stretch the period between them in time. If you start 3 new accounts within one month, it will be regarded as a signal of your potential financial trouble and you should expect a considerable drop in the credit score.

As you can see, credit cards are the most influential everyday factor in building your credit score. Loans and mortgages are big-scale projects, whose importance is more obvious, but less flexible - all you can do is pay on time. Very obvious and very important.

People, who for some reason do not have credit cards or do not use them, may find it difficult to build up a credit score. There used to be such an option as “an authorized user” of a card that was used by parents for their children a lot. A child, as an authorized user, would charge his shopping to the card; the parents would pay it all to keep a pretty balance on the account. The child got his credit score just by being lucky to have financially disciplined parents. Nowadays the option still exists as a way to provide, say, a child with funds, but the authorized user information is not taken into account by the three credit score bureaus any more, so no authorized user can build any score this way.

If you have no credit card, I am afraid, you will have to get one, or better 3-5, after all. The process of establishing a credit score is a long one. No rush allowed - if you are starting new accounts, never start even two of them within a short period of time. Wait, say, half a year before getting a second one, and even longer before the next one, otherwise the credit machine will assume you are in a financial trouble and lower the score. But for the other features that you will select to your taste, the cards should have the highest limit you can get with your “no credit history” record and you have to make sure the issuer reports the limit and the activities to the credit bureaus. Keep the balance low, pay on time, and already in a few months you will have some credit score. It will not be high, because your payment history is short, but it will make a good start. Your task will be to keep the score growing by doing the right thing and trying not to ruin all your effort by going delinquent on any of your debts - cards or no cards.

If you don’t like to live in debt, you can try such a strategy: buy your groceries with a credit card, come home and repay the debt as soon as you feel comfortable with, or as soon as the card allows.

Card owners! Do not forget to ask the card issuer to raise your credit limit on the card, if your credit history is good. The higher the top limit, the lower the utilization ratio, produced by the same balance. Make sure the new ratio is reported correctly - request and read thoroughly a credit report from each of the three credit bureaus.

Beware, though - the biggest disappointment about every credit report, no matter how accurate it is, is the lack of actually the credit score (the FICO score) in it. The report you get reflects your credit activities, it does not give you the magic three digits. If you want to know what your credit activities total to, you have to pay and then the bureaus will provide you with the score. The bureaus (www.equifax.com, www.experian.com, www.transunion.com) also run temporary offers to get the score for free, but you have to be careful and read all the conditions and terms scrupulously, otherwise you may end up charged for some membership you don’t want. There is one other web-site www.myfico.com that provides the real FICO scores, and that’s it. No other web-site is authorized to tell you your credit score. If somebody claims they are, it may well be that you are being scammed. Nobody can buy a whatever score one wishes for from anyone.

As there are three different bureaus, there will be three FICO scores that may differ a bit for the same reason as the reports differ. The scores are derived totally from the information in the reports.

Sometimes it seems kind of hard to predict what impact a certain move will have on the score. Sometimes the result seems to be totally illogical and thus labeled unfair. Most people expect that paying off delinquencies should improve the score straight away and they get very disappointed to find out that it does not happen. Paying delinquencies is a good and the only right thing to do, but the effect will tell on the score only several years later. A delinquency stays on the record for 7 years. It goes gradually down in the list of the most powerful decisive factors, but is still taken into account during all the 7 years. A lot of other credit-unfriendly activities, bankruptcies, for instance, act similarly. Some need more and others need less time to be removed from the record. Time and your responsible credit behavior cure the score. However, if you leave your collection account or some tax liens unpaid, the count down may not start until you do pay them. You miss a payment, it gets reported, you still don’t pay it and as long as it is unpaid, it stays on your record, ruining the credit score and not allowing it to rise as much as it should have, in spite of all your effort with other means. The Fair Credit Reporting Act (§ 605. Requirements relating to information contained in consumer reports) is the original source of information for the periods.

One little detail though - if you have an old (7 years or longer) delinquency or an unpaid collection account, do not rush to pay them off now, right on the eve of your mortgage shopping. The thing is that the power of negative factors declines with time. The bad influence these items generally have has been weakened with time, but if you pay them now, it will make them current (i.e. strong) again. That is why it is recommended to pay such debts off as soon as possible thus giving the score enough time to heal up before you shop for a loan.

Inquiries. Inquiries to the bureaus about your credit score actually have negative effect on the score itself, as they may imply a borrower’s frantic search for a solution for his financial distress. The other implication, of course, is a person shopping for a better loan. Lack of differentiation between the two was a stress for many years. Finally, a rule was introduced to protect your credit score from the unfair damage: auto and mortgage loan score inquiries (only these two types!) made in the 30 days prior to scoring are counted as one inquiry and do not affect the score. Moreover, the score calculator searches for earlier “chain inquiry periods” in your report and if they are no longer than 30 days, counts each of them as one inquiry as well. So, if you manage to complete your mortgage shopping within 30 days, the related inquiries won’t hurt your credit score. The issue to bear in mind: the older calculating system allows for 14 days only, the newest - for 45. It is an issue, because each lender chooses which version of the FICO scoring formula it wants the credit reporting bureau to use to calculate your FICO score.

In 2006, Equifax, Experian and TransUnion came up with their own credit scoring system, VantageScore, that goes from 501 to 990, as reported by TransUnion:

The competition, naturally, does not make Fair Isaac Corporation happy, but their FICO score still dominates the market. For now…

• Steps on the Way Home
• FHA-Insured Mortgages
• Annual percentage rate (APR)