Calculation of FICO Score

Fair Isaac Corporation developed a model to calculate the credit rating of every individual. This rating is very important for various purposes. Be it housing loans and mortgages, personal loans, education loans or even credit card consolidation, credit rating of an individual is important in every place. A standard and reliable way of calculating credit goes a long way in ensuring that every individual is judged under the same scanner and interest rates and principal amounts are proportionately given out by lenders to these individuals. A lower credit rating obviously denotes a risky counterparty and hence the interest rate is higher. Individuals with a very good credit rating get many benefits and can easily avail loans when required.

The FICO credit score is calculated by assimilating data for as many as 22 parameters collected from 3 credit bureaus namely Equifax, Experian and TransUnion. The pie roughly gives 35% weightage to payment history, 15 % to the length of the credit history, 10% to new credit, 10% to types of credit used and finally 30% to the outstanding debt and for the period it has been outstanding. Higher score signifies an individual who pays his or her bills on time irrespective of the income and hence pose less risk to the lenders. The maximum rating a person can have in this model is 850 while 300 is the lowest that a person will get.

There are many websites that will offer FICO credit scores, at some annual fees. The importance of the credit scores in deciding the credit worthiness of an individual suggests the care and caution one should take to maintain a healthy rating. This means every individual should pay attention to various factors. Paying the bills on time is one of the most important things for a good rating. FICO scores take into account the number of times payment of bills has missed the deadlines and the period before which it happened. Individuals are usually advised to have as less obligations as possible e.g. not more than one or two credit cards and couple of loans. There is always a chance of identity theft due to excessive and unmanageable number of accounts that an individual maintains. On the other side, closing accounts which have a good and long history would reduce the credit rating of the individual and hence it is good to maintain such accounts.

FICO scores also take into account past events like bankruptcy, defaults and lawsuits. Individuals who want to maintain a high rating should also try to have as low a debt as possible. Higher debt means greater default chance. Similarly, if your credit card has gone over the limit in the past, it can end up reducing your credit score. This means you must always keep the outstanding balance and expenditure under control. The duration for which a person’s credit history is available also adds to the score. A long and clean credit history is a consistent pattern that gives lot of comfort to lenders and a high credit score too.  Maintaining a good FICO score is like maintaining a clean image and is of utmost importance.

What is FICO score?