New credit score rules: Will you benefit?
By Peter Andrew
If your credit score's less than perfect, this could be the most cheerful thing you're going to read all day. That's because FICO, the company whose scoring systems are used in 90 percent of all lending decisions, and two of the three major credit bureaus are making changes that might give your score a boost -- without you having to lift a finger.
In other words, one morning soon, you could wake up with a significantly better credit score, simply because of the way these scores are tallied.
FICO Score 9: the best sequel ever?
In August, FICO announced that it was launching a new version of its credit scoring system. And FICO Score 9 includes some big changes that could save you money the next time you borrow.
The first affects those who have medical collections on their reports. Up until now, these have had the same negative impact on scores as all other debts. But they're set to be counted differently. And the company estimates that the median impact on its 300 to 850 scale for those who have medical collections as the only major negative references on their reports should be a score boost of 25 points.
Others who might benefit include those with "thin files." That's industry jargon for consumers who have short or limited credit histories. FICO Score 9 should provide them with more "refined treatment," in the company's words, which may mean some of these borrowers may soon be able to access a broader range of products at better rates.
The new scoring system is reportedly being tested by credit bureaus, so it may be some months before your score is affected, however.
Renters get a fairer deal
Meanwhile, those who rent their homes may also find their scores getting a boost -- as long as they make payments punctually. Until recently, mortgage lenders pretty much always reported every payment, while landlords didn't. That gave many homeowners an advantage because they got credit (literally!) for their good behavior, while renters didn't.
Now two of the major credit bureaus, Experian and TransUnion, are allowing -- and encouraging -- landlords to report rental payments. That could give a big boost to renters' credit scores, and put them in a stronger position if they ever decide to apply for a mortgage -- or borrow for any other purpose.
In fact, TransUnion recently found close to 41 percent of subprime consumers experiencing a VantageScore (a scoring system competing with FICO's) increase of 10 points or more after just one month of their rents being reported.
Of course, not everyone stands to benefit here: Renters who miss payments or make late payments may be left in a worse position by the changes.
Credit scores count
It's almost impossible to overestimate the importance of credit scores for virtually everyone in 21st-century America. They, along with the credit reports on which they're based, are consulted by all sorts of lenders, and are key in determining whether you'll be approved for the mortgage, credit card, auto loan or whatever it is you want -- and the interest rate you're going to have to pay.
Some years ago, credit guru Liz Weston calculated the likely difference over a lifetime of typical borrowing that having a good-to-excellent score -- rather than a fair-to-poor one -- would make. It came in at more than $200,000 in savings on interest payments, an amount that may well have risen since she did her sums.
Even small movements in your score can make a big difference to your cost of borrowing. Some lenders set rates and approval criteria according to scoring bands, such as 600-649, 650-699, 700-749 and so on. So, for example, if your score is currently 680, and it were to get a bump of 25 points, you would find you're suddenly within a higher band. And, if it's now 647, just a three-point increase might get you a better product or rate.
How to boost your score
So those "free" increases you may get from the new scoring system and the inclusion of rental payments in reports might save you real money. But you don't just have to sit back and wait for such boosts. You can actively drive up your score on your own at any time too.
It may take a while to turn a poor score into a good one, but the benefits can be enormous. Here's what you have to do:
- Pay every bill on time. Your payment record makes up 35 percent of your overall score, and is the biggest single factor in determining it.
- Use a small proportion of your available credit. The smaller the proportion, the better your score, and 30 percent is the magic figure. So if your combined credit card limits are $10,000, your balances should total less than $3,000. Otherwise your score is being held down.
- Build the length of your credit history. The longer your history of paying back debt responsibly, the more comfortable a lender is when you want to borrow from it. (But again, FICO Score 9 may make it easier for some of those with thin files to get credit.)
- Use different types of borrowing. Lenders like to see a mix of accounts, including installment loans (mortgages, student and auto loans and others that have fixed end dates) and "revolving credit," which mostly comprises credit cards. Successfully handling such a mix proves you're a responsible money manager.
- Limit the number of new accounts you apply for. If you try to open multiple new accounts in a short period, lenders are likely to think you're in financial trouble, and your score may fall.
Getting your score up is highly likely to save you money, and it can see you approved for products that are currently beyond your reach. Maybe you want, but can't get, credit cards with miles promotions or gas rebates or cash back or whatever. Or you're desperate for a mortgage so you can be a homeowner. Or you have your eye on a new car, but can only qualify for a painfully expensive auto loan.
A better credit score might bring all those, along with affordable rates, within your reach.
Peter Andrew has over 25 years of experience writing about marketing, advertising and management. He regularly covers consumer credit card topics for IndexCreditCards.com and other personal finance publications including Fox Business, TheStreet and MSN Money. He also writes frequently about mortgages and auto loans. Peter has spent extended periods living overseas, in the UK, France and Africa. He lives with his partner of 20+ years, and wastes too much of his time on cryptic crosswords.