But, that’s the world we live in. Lenders, vendors, and other businesses do indeed have a legitimate need to understand who they are doing business with. When big companies spend vast amounts of time and treasure to compile information about you, you should really try to understand something about what they gather and why. Don’t you agree?
So how do credit scores work?
For starters, the most widely used credit score (or FICO Score, see more on this in Chapter One) is actually a combination of scores developed by three different companies: Transunion, Equifax, and Experion. These three companies, called credit bureaus, each have their own networks for gathering information, and their own processes for turning your information into a rating or score. An excellent score is over eight hundred; a score in the low five hundreds isn’t so good; below that shows you’re in real financial trouble.
These scores focus on several categories in your personal financial life. In rough order of importance, they are:
- Your payment history: do you pay everything on time? Are you delinquent with anything? If you’re delinquent on even the smallest little department store card, you hurt your overall score.
- How much do you owe in total? Obviously, having a huge amount of outstanding debt can be seen as a problem.
- Evidence of financial hardship. If you have any tax liens on property or if you have sought credit counseling (see section below on credit counseling), your score will be negatively affected.
- The length of your track record. A brief track record might mean you have less experience with money. This may or may not be true, but credit bureaus only react to data they can gather.
- The type of debt you have. If you have a preponderance of revolving credit, such as credit cards, then your score would be lower.
- Amount of new debt. If you are frequently opening new accounts, it could be a red flag for lenders. Be very careful and deliberate about what new accounts you apply for. Don’t overdo it.