What Are Credit Scores, Credit Reports and How Do They Work?
A credit report is a report containing detailed information about a person's credit history, including personal identifying information (such as name, address and social security number), credit accounts and loans, bankruptcies and late payments, and recent inquiries. It can be obtained by prospective lenders and others with access to the system, with the borrower's permission, to determine his or her creditworthiness.
A credit bureau (U.S.), or credit reference agency (UK) is a company (typically called a "consumer reporting agency" or CRA) that collects information from various sources and provides consumer credit information on individual consumers for a variety of uses. This helps lenders assess credit worthiness, the ability to pay back a loan, and can affect the interest rate and other terms of a loan. Interest rates are not the same for everyone, but instead can be based on risk-based pricing, a form of price discrimination based on the different expected risks of different borrowers, as set out in their credit rating or credit score. Consumers with poor credit repayment histories or court adjudicated debt obligations like tax liens or bankruptcies will pay a higher annual interest rate than consumers who don't have these factors.
In the U.S., credit bureaus collect and collate personal information, financial data, and alternative data on individuals from a variety of sources called data furnishers with which the bureaus have a relationship. Data furnishers are typically creditors, lenders, utilities, debt collection agencies and the courts (i.e. public records) that a consumer has had a relationship or experience with. Data furnishers report their payment experience with the consumer to the credit bureaus. The data provided by the furnishers as well as collected by the bureaus are then aggregated into the credit bureau's data repository or files. The resulting information is made available on request to customers of the credit bureau for the purposes of credit assessment, credit scoring or for other purposes such as employment consideration or leasing an apartment.
In the United States, key credit bureau consumer protections and general rules or governing guidelines for both the credit bureaus and data furnishers are the federal Fair Credit Reporting Act (FCRA), Fair and Accurate Credit Transactions Act (FACTA), Fair Credit Billing Act (FCBA), and Regulation B.
A credit score is a numerical expression based on a statistical analysis of a person's credit files, to represent the creditworthiness of that person. The term "credit reputation" can either be used synonymous to credit history or to credit score. A credit score is a numerical expression based on a statistical analysis of a person's credit files, to represent the creditworthiness of that person. A credit score is primarily based on credit report information, typically sourced from credit bureaus.
The factors which may influence a person's credit rating are:
Given the large number of consumer borrowers, these credit scores tend to be mechanistic. To simplify the analytical process for their customers, the different credit bureaus can apply a mathematical algorithm to provide a score the customer can use to more rapidly assess the likelihood that an individual will repay a given debt given the frequency that other individuals in similar situations have defaulted. This means there is no one credit score, but several (or more): each credit bureau creates their own credit score for each individual.
Most credit scores go up to about 800, with anything over 700 being a pretty good score.
While there are different methods of calculating credit scores, FICO is the most widely known type of credit score. FICO is a credit score developed by Fair Isaac Corporation. It is used by many mortgage lenders that use a risk-based system to determine the possibility that the borrower may default on financial obligations to the mortgage lender. The credit bureaus all have their own credit scores: Equifax's ScorePower, Experian's PLUS score, and TransUnion's credit score, and each also sells the VantageScore credit score. In addition, many large lenders, including the major credit card issuers, have developed their own proprietary scoring models
Free Credit Reports
Most consumer welfare advocates advise individuals to review their credit reports at least once per year, in order to ensure that the reports are accurate. Consumers can do so at no cost. They are entitled to a free annual credit report from each of the three nationwide consumer reporting agencies, Equifax, Experian, and TransUnion . In the United Kingdom, the main credit reference agencies for individuals are Experian, Equifax, and Callcredit. There is no universal credit rating as such, rather each individual lender credit scores based on its own wish-list of a perfect customer.
The Federal Trade Commission, the nations consumer protection agency, will tell you that there is only one authorized website where you can request a free credit report under U.S. federal law. This is due to a recent amendment to the federal Fair Credit Reporting Act requiring each of the nationwide consumer reporting companies Equifax, Experian, and TransUnion to provide you with a free copy of your credit report, at your request, once every 12 months. Many other websites claim to offer "free" credit reports, but may charge you for another product if you accept a "free" report. Don't be taken in by the misleading advertising from FreeCreditReport.com or others!
How are credit scores and credit reports used?
Lenders, such as banks and credit card companies, use credit scores to
evaluate the potential risk posed by lending money to consumers and to mitigate
losses due to bad debt. Lenders use credit scores to determine who qualifies for
a loan, at what interest rate, and what credit limits. The use of credit or
identity scoring prior to authorizing access or granting credit is an
implementation of a trusted system.
How can a consumer improve his or her credit score?
Since a credit score is a measure of an individual's willingness to repay a debt, making payments on time is the basic key to a good score. Lenders like to see consumer debt obligations paid on a monthly basis.
Another factor in determining a good credit score is income. The higher the
income, all other things being equal, the more credit the consumer can access.
However, lenders make credit granting decisions based on both ability to repay a
debt (income) and willingness (the credit report) as indicated in the past
How to Stop Unwanted Credit Card Offers:
You may request that consumer credit reporting companies exclude your name from lists for pre-approved, unsolicited credit and insurance offers. Blocking credit card pre-approvals helps to prevent identity theft, especially if you are planning to move. The credit card companies continue to send out the pre-approvals to your old address even after you move. Identity thieves can take those forms out of your old mailbox and send them in. You can either opt out permanently or for five years. You can either call 1-888-5-OPT-OUT or go to optoutprescreen.com.
Note that it doesn't stop all the offers: frequent flier cards and hotel reward cards aren't blocked.
Credit outside the United States
In the United Kingdom, the three credit reference agencies are Experian,
Equifax and Callcredit, which works closely with its US partner, TransUnion.
The establishment of Credit Information Bureau (India) Limited (CIBIL),
India's first Credit Information Bureau, is an effort made by the Government of
India and the Reserve Bank of India to improve the functionality and stability
of the Indian financial system by containing NPAs while improving credit
grantors' portfolio quality.
You can also request your free credit report by telephone. Call toll free: 18773228228. Hearing impaired consumers can access their TDD service at 18777304104.
Credit Repair is also an area that is filled with scams. To find out more about see the Federal Trade Commission Credit Repair website.
For an excellent and entertaining object lesson about investing for the future, see this page!
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