Three digits that can save you (or cost you) a lot of money – your credit score. Have you ever wondered what the big fuzz is about with this number and how it came to be?
Credit scores were originated as a result of a need to accurately reflect a borrower’s abilities to pay his or her debts. In the days before scores were assigned, many credit lending decision were character-based. There lacked exact reporting that let lenders know exactly how risky potential borrowers were with money.
In 1956, an engineer and a mathematician, Bill Fair and Earl Isaac, created a system on the principle that “data used intelligently, can improve business decisions”. Truth be told, the first version of this system was actually pretty terrible due to the many variables and lack of technology resources available at the time. Eventually, after much fine tuning, the FICO score was born. (FICO stands for Fair Isaac Corporation). This scoring system was then sold across the world to banks and businesses as a way to see through factual data a prospective borrower’s likelihood to repay a loan.
FICO Scores and Credit Bureaus
Many people have heard of Experian, Equifax, and Transunion. These are the three major credit bureaus in the U.S. FICO scores are actually calculated based on consumer credit files from these bureaus. In 2006, all three bureaus joined to create a scoring system to rival the FICO scoring system called VantageScore. This scoring system is not as widely used as FICO but lenders still rely on these three entities to provide your scores and verify your credit worthiness when you are asking to borrow money.
How is my score calculated?
This is actually a great question. Although the formula used to calculate FICO scores is proprietary, over the years, information on the factors that affect your scores have been made public.
The factors the go into your FICO scores are as follows: Payment History (35%), Outstanding Debt (30%), Length of Credit History (15%), New Credit (10%), and Credit Mix (10%). So, although we can’t add a few numbers and divide by something to manually get our scores, we can certainly know what actions we can take to boost it by affecting the factors that go into the calculation.