How is my credit rating calculated?

Obtaining credit is one of the key features of modern life (recession not withstanding). Lenders keep tabs on a person’s borrowing (or rather, repaying) by using credit reference companies to collate and store information on a person’s financial history in order to ascertain their ‘credit rating’.

The application of credit ratings varies the world over. In the western hemisphere, many countries use the FICO (Fair, Isaac and Company) system as standard. Here in the UK, credit report agencies like Experian use the FICO system (click the link to see free online credit reports) – but many consumers have little to no idea how it works. Let’s take a walk through the factors used to ascertain your credit rating…

Payment history comprises 35% contribution to the FICO scale, making it the single most important factor determining your rating. A poor payment record can lower your credit rating. FICO looks at collections, charge offs, late payments, foreclosures, settlements, bankruptcies and CCjs, analyzing the relative severity of each. They also look at the age of the item – recent defaults are worse than older ones – and the number of items, to establish how trustworthy you are as a borrower.

Next up in terms of importance is debt, which contributes 30% to the FICO score. Your report will look at the amount and type of debt carried, Within this category, there are three different kinds of debt:

Revolving debt – credit card and retail debt

Installment debt – pertaining to a fixed period and amount, such as car loans

Open debt – anything that must be paid in full each month

Time in file refers to the age of your credit report, and counts for 15% towards the FICO scale. The older your report, the more stable it generally is. The age is determined by both the average age of the accounts featured, and the overall age of the file itself. The age of your credit file is set according to the oldest account’s ‘date of opening’.

Contributing 10% on the FICO scale is account diversity. Your credit rating benefits from having different kinds of accounts, by establishing your ability to pay different amounts at different times. This element essentially proves that you can manage a number of financial commitments at one time.

Also contributing 10% is the search for new credit, which collates every instance of a company requesting information from your file. Although some requests (known as ‘soft inquiries) will not affect your creditworthiness, several kinds of inquiry do affect your score. Hard inquiries can affect your score (although by no means always), so it’s best to keep inquiries to a minimum to avoid this happening. Lenders may look at multiple inquiries over a short period of time as a sign of financial difficulties, which may result in you being considered a poor credit risk.

Remember, if you are struggling financially you should seek help from a professional. In the UK, the National Debt Line can offer assistance and advice to people struggling with debt.

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