by Marcy Kennedy

Created on: January 13, 2009

UNDERSTANDING THE NEW CREDIT-SCORING PROCESS

Understanding the new credit-scoring process is not as difficult as it might seem. Your FICO (short for Fair Isaac & Company) credit score is a statistically-generated number up to 850 that helps potential lenders determine your financial situation and whether or not you are a good credit risk. The average American scores in the 600s or 700s.

As did the old system, the new FICO credit-scoring process still weighs five factors in determining your credit score:

-payment history (35%)
-amounts owed, also known as your balance to credit limit ratio (30%)
-length of credit history (15%)
-new credit (10%)
-type of credit use (10%)

The new FICO credit-scoring process is different from the previous process in five main areas:

(1) Being an authorized user on another person's credit card will no longer affect your credit score.

An authorized user is someone who is not the primary credit card holder but who has a card linked to the account of the primary credit card holder. Authorized users are usually spouses or children of the primary card holder. In the past, children of the primary card holder have used this process to build their own credit history. Unfortunately, the process was being abused by people with bad credit who became an authorized user of a friend with good credit (or even of a stranger) in order to improve their credit rating.

(2) An occasional slip or late payment will not be treated as harshly. If you happen to pay all of your accounts but one on time in a specific month, your credit score will not drop as drastically as it would have under the old system.

(3) Multiple delinquent or overdue accounts will be treated more harshly than in the past and will result in a greater drop in your credit score.

(4) Consumers who positively maintain multiple types of credit will receive a greater boost in their score. Multiple loan types indicate your ability to manage and balance your payments.

(5) A high balance to credit limit ratio will be penalized more severely. For example, if you are currently using 70% of your available credit, your FICO score will reflect this by being lower than if you were currently using only 30% of your available credit.

Understanding the new credit-scoring process is important because it will help you improve your credit score or maintain your good credit score. And a good credit score can be the difference between being approved or denied for credit, a mortgage, or a job.

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