Ever wonder how you can go online and be approved within 60 seconds? Or get pre-qualified for a car without anyone asking you what you make? Or why you get one rate on your loans and your neighbor gets another?
The answer is the Credit Scoring System.
What is a Credit Score?
It’s a number generated by a mathematical formula based on information on your credit report as compared to tens of millions of other people. The formula is a complex rendering of financial data designed to formalize risk and give lending institutions the ability to evaluate someone’s credit worthiness. It is a prediction of how you will pay your bills. The higher the number, the better you look to lenders. People with the highest scores generally get the lowest rates.
Lenders can use one of many different credit-scoring models to determine if you are creditworthy. Different models result in different scores, but lenders use some more than others. The FICO score is one popular scoring method.
The score runs from 300 – 850. The vast majority of people scores fall between 600 – 800. A score of 740 or higher will typically get you the most favorable pricing for mortgages.
Credit Score Percentage
499 & below 2 percent
500 – 549 5 percent
550 – 599 8 percent
600 – 649 12 percent
650 – 699 15 percent
700 – 749 18 percent
750 – 800 27 percent
800 & above 13 percent
Currently, each of the major bureaus uses their own version of the FICO scoring method. Equifax has the BEACON score, Experian has the Experian/Fair Issac scoring model and Transunion uses the Empirica score. That’s why everyone gets three different scores.
Why it’s so Important
No matter what scoring model is used, it pays to have great credit. Your score effects whether you get credit or not, what the terms will be. If you have rented an apartment, got braces, bought cell phone service, applied for a job that involved handling money or needed to get utilities connected, there is a good chance your credit was pulled.
The difference in interest rates offered to a person with a score of 520 and 720 is 4.36% according to Fair Isaac’s web site. On $100,000 mortgage, the difference in monthly payment would be $307 and would cost more than $110,325 in additional interest over the life of the loan.
How the Credit Score System Helps
Before credit scores system was generally accepted, it was up to each lending institution to come up with their own criteria how/whether or not to issue credit. They would hedge their risk and tend to be conservative. So Credit Scores have actually opened up lending for a lot more people and made it easier for people to get credit!
Stay tuned for Part 2 of this series, on your rights as a consumer, how credit scores are calculated, and general rules of thumb.
If you have questions about the credit score system, or the mortgage process, the Kelly Mortgage Team at Envoy Mortgage is here to help. Give us a call at 610-355-1801 and we will work with you to meet all of your needs.