Credit Reports and Credit Scores

November 24, 2004, Revised November 16, 2006, July 17, 2009, Reviewed February 3, 2011

What Is a Credit Report?

A credit report is a report from a credit bureau containing detailed information bearing on credit-worthiness, including the individual's credit history.

A typical credit report includes the following:

Personal information. This is to identify the individual, hopefully distinguishing him or her from every other individual on the planet. It includes social security number, current and past addresses, and current employment.

Information from public records (states and counties). This includes liens, garnishments, foreclosures, bankruptcies, law-suits and judgments.

Information from collection agencies. This consists of past due debts that have been given to collection agencies to collect.

Information from creditors. This includes the identity of the creditor, the date the relationship began, the current status of each account including the amount outstanding, the maximum line if any, current status of the account, and past delinquencies.

Information about inquiries. This identifies companies that have requested the individual’s file within the last two years, distinguishing those authorized by the consumer and those not so authorized. Only the former affect credit scores.

There are three major repositories of credit information: Equifax, Experian and Trans Union. The information provided by the three is not exactly the same because not all credit grantors report information to all three.

At one time, mortgage underwriters with responsibility for determining whether or not a mortgage applicant was "credit worthy" spent much of their time studying and interpreting credit reports. Increasingly, however, this judgment is being based on credit scores, which are derived mechanically from information in the credit reports. Credit scores are discussed later.

Errors in Credit Reports

The credit reporting system is imperfect. Credit grantors, which are the source of much of the information that goes to the three credit bureaus, make mistakes. Some are due to sloppiness, some to confusion over names, and some are intentional. Some lenders deliberately withhold information on timely payments and maximum credit lines to prevent a customer’s credit score from rising, because it might result in losing the customer.

The credit bureaus also make mistakes. They have no financial interest in keeping anyone’s credit score low, but they do have a financial interest in managing their enormous databases at the lowest possible cost. The more common is your name, the higher is the probability that your file contains information pertaining to someone else with the same name – and that information about you has been inserted into someone else’s file.

Errors from credit grantors and credit bureaus are of both omission and commission. An error of omission is a piece of information which should be in your file but isn’t. An error of commission is the placing of information in your file that doesn’t belong there. Whatever the source, errors can adversely affect your credit report. See below for guidance on how to remove errors.

What Is a Credit Score?

A credit score is a measure of your credit worthiness. The most common credit score is called the FICO score because it was developed by the Fair Isaac Company. The higher the FICO score, the greater the likelihood that the debts of the borrower will be repaid on time.

FICO scores range from 350 to 850. According to Fair Isaac, the median score over the entire population is about 715, with 20% above 780 and 20% below 620. The minimum score required to qualify for the lowest mortgage rate is about 740, but it varies from lender to lender, and often depends on other characteristics of the transaction. It also depends on the state of the market, and during the financial crisis it rose closer to 780.

Credit scores have speeded up the process of making loan decisions, and have largely eliminated personal bias and subjectivity in the decision process. The major downside is the possibility of data error. FICO scores are based entirely on information taken from credit reports. If the credit report is contaminated by erroneous or incomplete information, the FICO score will also be contaminated.

In 2006, Equifax, Experian and Trans Union set up a rival credit scoring system, VantageScore, in competition with Fair Isaac's FICO. Vantage Score uses a scale that ranges up to 1,000, with 900-1,000 representing an "A" credit, 800-900 a "B" and so on. This type of ranking is akin to that used in academic tests, which may make it intuitively more appealing to users. On the other hand, having two different scaling systems could result in confusion. A score of 750 is an "A" with FICO but only a "C" with VantageScore.

Will the Passage of Time Improve Your Credit Score?

The Federal Fair Credit Reporting Act puts father time on your side by setting limits on how long negative information can appear in consumer credit records. Once a piece of information has been on a consumer’s record for the prescribed period, it is supposed to drop off. Once off, it will no longer affect your credit score.

The prescribed periods are as follows: inquiries about you from credit grantors, 2 years; late payments, mortgage foreclosure, collection accounts and chapter 13 bankruptcy, 7 years; chapter 7 bankruptcy, 10 years; unpaid tax liens, forever.

Even before negative information drops off a credit report, credit scoring will give it lower weight as it ages. However, this doesn’t do borrowers any good unless they generate new positive credit information. Old bad stuff plus recent good stuff generates a rising credit score. Old bad stuff followed by no credit activity results in a continued low score. See Are Credit Problems Cured by the Passage of Time?

Will Paying Off Delinquent Accounts Improve Your Credit Score?

No. Delinquencies reduce your credit score because they are viewed as evidence of a weak commitment toward meeting your obligations. This evidence of your attitude toward debt is not wiped away when you repay the delinquent loans. They stay on your record for 7 years. However, their weight in your credit score gradually declines with the passage of time, provided your recent payment record is better.

Do Credit Inquiries Hurt Your Credit Score?

Credit inquiries reduce credit scores because credit scorers have found that multiple inquiries are associated with high risk of default. Distressed borrowers often contact many lenders hoping to find one who will approve them.

But multiple inquiries can also result from applicants shopping for the best deal. To avoid catching shoppers in their net, credit scorers ignore auto and mortgage inquiries that occur within 30 days of a score date. To avoid biasing the credit score from earlier shopping episodes, the scorers treat all auto and mortgage inquiries that occur within a 14-day period as a single inquiry.

The upshot is that credit inquiries will not significantly impact your credit rating if you do all your shopping in a short period. Since the market can change from day to day, this is the only effective way to shop anyway.

Consumers should not be concerned about inquiries they make, such as ordering a credit report. Self inquiries don't affect the credit score. Neither do inquiries from your existing creditors, potential employers, or businesses considering whether or not to solicit you. The only inquiries that affect credit score are those by new credit grantors who you have explicitly authorized to check your credit. See Do Credit Inquiries Hurt Your Credit Score?

How Much Debt Is Too Much?

The two major components of a credit score, which on average account for 2/3 of the total score, are payment history and amounts owed. Where the first is a record of how well you have met your obligations over the years, the second is a snapshot of your indebtedness right now. If your credit history is short, your current indebtedness can be the most important factor determining your credit score.

The approach that FICO credit scorers use to determine whether you are living beyond your means is to compare the outstanding debt on each of your accounts with the maximum amount of debt that the credit grantor has set for you on that account. This generates a set of "utilization rates" for each of your accounts.

For example, if you have two credit cards with maximum balances of $4,000 and $5,000, and if the actual balances are $3,000 on both as of the most recent date of record, the utilization rates are 75% and 60%.

Other things the same, the higher the utilization rates, the lower the FICO score.

[Note: Don't run out tomorrow to open some more lines, so your balances can be spread over a larger number of accounts. The FICO genie has a strong distaste for multiple new accounts in a short period of time, which can be an indicator of financial distress.]

Consumers should be aware of potential problems in connection with the utilization rates that affect their credit score. The data on debt balances as reported by credit grantors isn’t always correct. Furthermore, for various reasons, credit grantors do not report maximums on all revolving accounts. Where no maximum is reported, the largest balance ever to be reported on the account is used in its stead. Since the highest balance is below the maximum, often substantially below it, this necessarily results in higher utilization rates for such accounts.

Before going into the market, it is a good idea for consumers to check their balances and their credit limits. If an account has no reported limit, you can either ask the credit grantor to report the limit, or terminate the relationship. In the unlikely event that the credit grantor won’t report the limit but you want to maintain the relationship anyway, you can shift all your balances into this account temporarily so that the highest balance comes closer to the unreported maximum, then quickly reduce them.

There is a particular problem with HELOCs, which are viewed as revolving credits, similar to credit cards, with a balance and a maximum balance.  A HELOC taken for the full amount to buy a house will reduce the credit score because the balance will equal the maximum. See Does a HELOC Adversely Affect Your Credit Score?

What Is a Delinquent Payment?

A delinquent payment is one that is 30 days or more past due. This is not the same as a late payment, which is one received beyond the grace period granted by the lender. If a mortgage payment due on the first of the month is received on the 20th, for example, it is late and will incur a late charge, but it is not delinquent and will not appear as such on the credit report.

Don’t Try to Skip a Mortgage Payment

A single skipped mortgage payment can mushroom into a cascade of delinquencies if you don’t cure it immediately.

Under the accounting rules used for amortized mortgages, lenders always credit a payment against the earliest unpaid obligation. If you skip your payment in April, you will record one delinquency. If you make your payment in May, it will be applied to April, making you delinquent for May as well. When you make your payment in June, it is applied to May, making you delinquent for June. The delinquencies accumulate until the skipped payment is made good. See What Happens When You Skip a Payment?

Removing Errors in Credit Reports

It is a good idea for consumers to check their credit well before they go into the market. This will give them time to get any errors fixed. Give yourself a minimum of three months.

If you find an error, use the form below to contact the credit reporting agency that reported it. If you follow the instructions exactly, the agencies are obliged by law to act on your complaint.

[Note: The dispute form and instructions are courtesy of Catherine Coy, a mortgage broker who runs a Credit Mastery Workshop in California.]

Consumer Dispute And Statement

Experian Trans Union Corp. Equifax
Attn: NCAC Attn: Disputes Attn: Disputes
P.O. Box 2002 P. O. Box 1000 P. O. Box 740241
Allen, Texas 75013 Chester, PA 19022 Atlanta, GA 30374

(Indicate the agency to which your complaint is directed)

I dispute the accuracy of my credit file as revealed to me on [Give Date].

In accordance with Section 611 of the Fair Credit Reporting Act, I hereby request that you investigate the current status of the information I have disputed below in Paragraph 1.

If your investigation does not resolve the dispute, I hereby file the statement below (Paragraph 2) which shall be included in any subsequent consumer report containing the information in question.

Credit Grantor:______________________________________________________

Account No.:_______________________________________________________

The disputed portion reads: ______________________________________



I maintain that: ________________________________________________


Your Name

Your Street Address

Your City/State/Zip

Your Social Security Number

Your Signature and Date

Instructions for Use of Dispute Form

Print a blank version of the form as your master form.

Fill in your name, address, and Social Security number on the master form.

Make copies of the master form as needed. You will need as many copies
of your master form as the number of derogatory items you are disputing.

Use one copy of the master form for each derogatory item showing at
each bureau. Some accounts are reported to all three bureaus and some to
only one bureau. Do not dispute a derogatory item at any bureau to which
it is not being reported!

Fill in the form as appropriate:

For accounts with zero balances, dispute as "not my account; please delete."

For accounts with balances, dispute as "paid as agreed; never late."

Don’t use any other language because it won’t be accepted or acted upon.

Sign each form in blue ink.

Mail the form to those bureaus—and only those bureaus—that are reporting
the derogatory information.

Include a copy of your drivers license and Social Security card for identification.

Use U.S. Post Office "certified mail; return receipt requested."

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