The Credit History Mystery

By | Jan 23, 2009

Even though poor credit management is in large part responsible for the melt down we are currently trying to deny, the average North American is woefully ignorant of what it means to have a “credit history”. People generally know that when they apply for a credit card or loan, the banks somehow check their credit and will approve or deny based on what they find. But what does that mean?

Your credit worthiness lives and breaths by your FICO score (named for Fair Isaac and Company, which was the first credit scoring company). FICO is a rating between 0 and 1000 that represents a risk calculation of how likely you are to repay debt. Your history is your destiny – apparently users with a lower score are much more likely to default on loans whereas people with higher scores have proven themselves as more reliable.

It is important to know what a credit score is, and what it isn’t. The methods used to calculate FICO scores are constantly being refined, and are intended only as a guideline to give lenders an indication of your success dealing with credit in the past. That said, these factors contribute to your credit score:

Length of History
The age of your credit accounts reflects on your score. If the majority of your accounts are fairly recent (less than seven years old), your score will be lower because you have less usage history for the credit bureaus to consider. This metric is generally out of your control – as time goes this will gradually be less of a drag on your score.

Payment History
This is critical – every account tracks how many payments were late by 30, 60 and 90 days. This is the biggest way to affect your credit score – a single missed payment can increase your perceived risk to lenders. There is talk about ignoring a single late payment which may act as a bit of a safety net for otherwise reliable spenders who are having trouble in today’s difficult economic climate.

Attempts to Get Credit
Every time someone makes an inquiry into your credit score, your score is lowered by several points. Applying for many credit products in a short amount of time will cause your score to fall through the floor and may disqualify you from getting more credit. This is because multiple inquiries are seen as a sign of desperation, which is unattractive to lenders.

Balance Ratio
The amount owing on your various accounts is reported monthly and affects your credit score. If your balance is close to the edge of your limit, your score will be negatively impacted. If paying off your credit accounts is not an option, aim to keep your balance down to 30% of the limit.

The Way Forward
The way in which you manage your finances has a tangible effect on your credit worthiness not just in the short term, but for years to come. If you haven’t already done so, learn how to manage your finances in such a way that your bills are always paid on time. Saving an emergency fund equal to 3 months’ living expenses may be difficult, but is a perfect way to rid yourself of dependence on credit products and the credit score game.

1 Comment so far
  1. Good Riddance 2009 | Ignorant Mouth January 16, 2010 7:40 pm

    […] that allowed the situation to spiral out of control. We say: Too big to fall? Too big to exist. Get on top of your credit and take control of your life. Blame venture capitalists – people who invest money are the […]

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