Ghosts of Credit Past
Is there anything less sexy than talking about your credit report? It is a reminder of all the financial mistakes that you have made in your past right there all organized and categorized in a few pages. This one report gives potential creditors a grade on how well you have done handling your credit in the last 7 years. So, it’s important that you understand your credit and learn to play the game!
That means that Express credit card you got when you were 18 with a $250 credit limit that you never paid off, might still be affecting you today when you go apply for a car loan. It could get you denied the loan altogether or cost you a few thousand extra dollars in interest. This is why understanding and maintaining your credit is so important.
Like most of you, I didn’t like looking at my credit report. It’s just one of those things that I would put off, but this is not financial wisdom. It was mostly because I didn’t understand it and it seemed really complicated. I’ve learned a thing or two though and now I want to share it with you.
A Little Bit of Background Info
How did we get to where we are at today when it comes to credit? Back in the early 1900s, consumers, AKA you and I, would go to a local bank and put in an application for a loan but there wasn’t a standardized way of deciding who was approved and who wasn’t. The creditor would decide if you got the loan on his subjective opinion on class, gender and race or really anything else. Maybe you walked in with the same perfume as his ex-wife or he didn’t like how you tied the knot on your tie. The system was unfair, inconsistent and not based on facts.
As more people started to try to acquire things through loans, it became clear that there needed to be a more uniformed and fair way to do this. Companies started to collect financial data on consumers, but there was still information in there that could negatively affect consumers and lead back to prejudice.
Fair Credit Reporting Act
That is why in 1970, the Fair Credit Reporting Act (FCRA) was passed. It established a standard legal framework for credit reporting agencies. This law made it clear who can access your credit information, what information they can collect and for how long they can keep it. For us as consumers it also outlines some of our entitlements, such as:
- Being able to verify the accuracy of a bureau’s report when it’s required for employment purposes.
- Receiving notification if information in a bureau’s file has been used against you in applying for credit or other transactions.
- You can dispute—and have the bureau correct—information in their report that is incomplete or inaccurate, in an effort to repair your credit.
- You have the right to remove outdated, negative information after seven years in most cases and 10 years for bankruptcy.
If the credit bureau fails to respond to any of your requests in a satisfactory manner, you can file a complaint with the Federal Consumer Financial Protection Bureau.
And the one thing you should exercise the most often is that you are allowed by law one free credit report from EACH of the three credit reporting agencies.
Free Credit Report
To get your free credit report, go to annualcreditreport.com, scroll down until you see, Request your free credit reports, and click on it. Then click on Request free credit reports and fill out the form. You will have to answer some questions to verify your identity with information that would be in your credit report: past addresses, names of lenders you have used in the past or aliases that are on your credit report. After answering all the questions, you will pick which bureau’s report you want.
Pick only one bureau, you can pick all three but trust me, pick only one. Then in four months you do it again and choose a different bureau and four months after that, you do it one more time with the last bureau. Now you have obtained your free report over a year. If you are paying a company to obtain your credit report and provide credit monitoring, some of which can cost up to $50 a month, you can go ahead and cancel that service because there are too many ways to get your free credit report.
Now through April 2021 on annualcreditreport.com, Equifax, Experian, and TransUnion are offering free weekly online credit reports so you can manage your credit during the COVID-19 pandemic. Once you have your credit report you are going to want to look at your personally identifiable information, such as names, addresses, your social security number, accounts and loans to make sure all the information is correct.
Then check that the other information is accurate and complete. If you find something wrong, contact the business that issued the account or the credit reporting company that issued the report. Get familiar with your credit report and every quarter when you look at it, you will be able to quickly find errors or new information. It is nice to have someone else “monitor your credit” but since you are the only one that is really affected by it, no one can do a better job at monitoring your report than you.
Therefore, save that $25-$50 a month you are paying that credit reporting company and put it towards your emergency fund or a financial goal. If you invest that money in a place that gives you a 7% average return for the next 10 years, you will have put in $3,600 and have made $1,532 in interest for a total of $5,133. Your money, making you money. Not bad for taking $30 that you are already spending and reallocating it. Small steps lead to big changes.
Just know that when you download this credit report, it will NOT have your credit score. You can get your credit score from one of your credit card companies, your financial institution or free credit scoring sites like CreditKarma and CreditSesame. I use CreditKarma; it provides me the information for TransUnion and Equifax and it’s a free service. If you are interested, in CreditKarma, click here. I like it because it’s easy to use and I can check it on a weekly basis to see how my score is changing. And don’t worry, it won’t affect your score since this is categorized as a soft inquiry.
FICO and Vantage Score
In 1989, there still wasn’t a uniform way for the three major credit bureaus, Equifax, Transunion and Experian to analyze the information. The FICO score was invented by Fair Issac Corp (hence the name FICO) providing a universal and impartial tool for evaluating consumers credit risk. This changed the whole game, because rather than one person’s bias opinion on your color or what side of the tracks you lived on, FICO evaluated potential borrowers solely on the person’s ability to repay a loan. It quickly became the standard system to measure credit scores based on objective factors and data. To this day, it is used by 90% of the market.
There is also VantageScore. It was created by the three credit bureaus in 2006 and is used by 10% of the market but steadily increasing. Both analyze information to give you a credit score but they both use slightly different criteria to determine your score. This is why you can see a different score on each credit report. Both produce a score that is generic, that means any type of lender can use it.
Three Credit Bureaus
Let’s also talk about the three main credit bureaus or agencies: Equifax, Transunion and Experian. They compete to capture, update and store credit history on most consumers’ financial information. The information in their reports is used to compute consumers’ credit scores, which can affect, for example, the interest rate you’ll have to pay to borrow money.
All three of these agencies are independent; they are not operated by the government. This means each of them have their own way of doing business. Even though they collect the same information, they process it differently and report your credit score in different ways. One of the main differences is that not all lenders report information to all three agencies. That’s why information such as your credit score, late payments and inquiries might be different if comparing reports.
For example, I compared my Transunion report with my Equifax report and one shows two more hard inquiries than the other. A hard inquiry is when you apply for a credit card or a loan and the lender has requested a copy of your credit report to make a determination. Another difference I saw is that one has my credit limit $9,000 higher than the other one. Even so, with these two differences, there is only a three-point difference between the two.
Simply put, your credit score is a three-digit number that tells lenders how likely you are to repay your loans on time based on what you have done in the past. Most models have a scale between 300-850. Your credit score looks at payment history, how long you have had credit and the amount of debt that you have. The higher the score, the more likely that you will make your payments on time.
But it’s really not that simple because as I said before, some lenders use the FICO score, other’s use Vantage and then each credit bureau also has their model to integrate into it. All you and I need to know is that as long as you are taking care of the five main factors, which we will talk about in the next blog, your credit score will be relatively close no matter which model is used.
The Good, the Bad and the Ugly
So what is considered a good credit score? A good credit score on the FICO scale is a 703 and a 680 for Vantage. But remember, you don’t only have one credit score. You will have different credit scores depending on the credit bureau and which scoring model they are using but regardless of these variances, all of them give lenders a general idea of you as a credit risk.
As you can see, there isn’t a huge difference in score between the three different credit bureaus. Your objective is to have a score higher than 670. Anything lower than that and it will be hard for you to get credit or you will end up paying more in interest.
Importance of Your Credit Score
Unless you are one of those people that can pay cash for everything, your car, your house and all major purchases, you can’t get away from your credit score affecting you. Even then, cell phone companies, utility companies, landlords and home and car insurance companies also use your credit score to determine if they will provide you service and in some cases how much of a security deposit they will require or how much premium they will charge you.
Every time you set a major financial goal, like becoming a homeowner or getting a new car, your credit is likely to be a part of that financing picture. Most major financial decisions will most likely involve your credit score: Starting a business, furnishing your house and getting a student loan. In order to not pay extra in interest, you have to have a good credit score. There are multiple factors that lenders take into consideration other than your credit score. They can include employment history, income and your personal assets. It’s not just about your credit report but a credit report is a big factor.
Over the course of your life, a bad credit score can cost you hundreds of thousands of dollars. A person with a 620 credit score would pay $65,000 more on a $200,000 mortgage than someone with a 760 or $5,000 more on a $30,000 loan. Between those two things alone, that is $70,000. Your credit score can help you get some really good interest rates or cause you to be disapproved or pay much higher interest rate over time.
Do the Work
Now that you have a basic understanding of your credit report, make sure you download ONE of your free credit reports on annualcreditreport.com and look it over. Find any errors that might be on there; 1 out of 5 people has an error on their report. I’ve given you practical things that you can do today to start improving your credit report.
In my next blog, I go more in depth as to what affects your credit and more things you can do to see that score go up. I know that the current system is not perfect and still needs work but once you know the rules you can start playing the game to benefit you.
To Your Finances,