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About FICO Score

By MarketWatch Oct. 21, 2005  Steve Kerch, real-estate editor

The mortgage industry was one of the early adopters of credit scoring to assess risk of borrower default. Lenders jumped on the FICO score, a measure invented by the Fair Isaac Corp. (other scoring methods are out there, but the mortgage industry sticks to FICO), because it plugged in nicely to automated-underwriting systems and gave them a quicker way to underwrite loans.

Over the years, the FICO score has become integral to a lot of other consumer-financial transactions, from renting apartments to buying insurance. Its role has evolved from a simple tool helping lenders make a loan decision to a more complicated equation, in which the score is used to set the rates and terms under which credit is offered.

That is generally most important in the mortgage decision, because the size of a home loan, and the fact that so many of them carry terms of 30 years, means even small increases in the interest rate can cost borrowers thousands of dollars over the term.

Consumers have gotten savvier about credit scores, but there still is plenty of confusion, especially about how to bring up your score so you can qualify for those best rates. It doesn't help that the credit-scoring companies keep their methodology secret, so you really get no more than general guidance from them, rather than specific information.

One of the bigger anomalies is that it is good to owe people money. You will have a higher credit score if you have borrowed and paid back over the years rather than if you -- some might say responsibly -- paid cash your whole life.

Even if you have the resources to pay off all your credit cards, for instance, that might not be your best strategy. In some cases, your score may be higher if you continue to owe small amounts on your cards -- but never more than 30% of your credit limit -- and pay on time.

The logic, from the lenders' point of view, is that seeing those regular payments is a lot more comforting than seeing a lump sum plopped down now and again -- the feeling being that lump-sum payers are likely to be big-sum runner-uppers in the future.

The bottom line these days is that you have to monitor your credit report and track your credit score. It's worth the investment of a few dollars a year to do that. By checking your score, and seeing how it reacts to your own financial behavior, you'll have the best ammunition to raise it or keep it high.

Remember, if you're on the prowl for a mortgage, you'll need to give yourself time to get that credit score where you'd like it. It can take months for your good credit deeds to actually get incorporated into your records, and hence your credit score.



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