Credit scoring: What you need to know now
I just finished reading the Consumer Financial Protection Bureau report on credit scores. This report was published on July 19, 2011 to meet a requirement of the Dodd-Frank Wall Street Reform and Consumer Protection Act. The Dodd-Frank Act also made amendments to the Fair Credit Reporting Act related to credit scoring that became effective on July 21, 2011. While there is a lot of information to digest in the report and the Acts, following are some take-aways regarding credit scores that you need to know now.
- There's more than one type of credit score. Generic scores are used to predict behavior for a wide range of credit products. Industry scores are specific to one type of credit, such as vehicle loans. Some lenders create their own custom scores and consumers might receive what is called an educational score.
- There are many scoring models for each type of score. There are many different scoring models used by lenders. Even FICO, responsible for 90% of generic credit scores in 2010, has numerous scoring models. This means that the score you see may not be the same score that a lender sees.
- Credit scores aren't the only factor considered by lenders. Other factors that may be considered include your income and employment history. The Equal Credit Opportunity Act (ECOA) prohibits lenders from considering factors like race, gender, and nationality.
- The definition of "good" credit changes. While most people consider a score of 680 or more to be "good," the definition of "good" changes over time and can vary from lender to lender. Furthermore, not all scoring models use the same scale as FICO (350 to 800).
- You may be entitled to a free credit score. Starting on July 21, 2011, consumers will be provided with credit scores when they (1) are granted credit with less favorable loan terms than other consumers, (2) apply for a mortgage, or (3) are subject to an adverse action such as having an account closed.
- You are entitled to a free credit report. In accordance with the Fair and Accurate Credit Transactions Act (FACT Act), consumers are entitled to receive one free credit report every 12 months from each of the three major credit bureaus. This has been true since 2003. When you obtain a free report from the central source, the FCRA mandates that you be given the option to purchase a credit score calculated using the credit report.
Consumers may find it frustrating that they receive a score that is different then the one used by lenders. In fact, the Consumer Financial Protection Bureau's report identifies some potential harms that may result from this, particularly if the consumer believes that they are more or less creditworthy than the lender believes them to be.
The best thing a consumer can do is to stop focusing on a specific score, but instead concentrate on using credit responsibly and to understand the major factors that contribute to a credit score. These factors include payment history, length of credit history, new accounts, types of accounts held, available credit, and credit utilization.