Wednesday, January 5, 2011

Credit Score Basics

Your credit score is a way for lenders to assess your creditworthiness and how much risk will be involved in lending money to you. It basically quantifies your financial life by putting a grade on it. Like the credit report, the same 3 major credit agencies (Equifax, Experian, and TransUnion) provide the score, and depending on the information given, each score will vary slightly from one another.

When you apply for a credit card, for example, the card company can request a "hard pull" of your credit report and credit score to decide: 1. whether they want to issue you a card and 2. what credit limit to put on the card, and 3. at what interest rate to lend you the money.

As I mentioned earlier, once you send in an application to borrow money, lenders will be authorized to do a "hard pull" of your credit score. For the most part, hard pulls are voluntary.
It is initiated by you by asking a certain company to lend you money or provide a service to you (cable and cell phone companies or even a potential employer can do hard pulls). This will show up on your credit report and may affect your score slightly. It tells the lenders whether someone they are loaning money to is trying to borrow money from other sources, too, or making a lot of requests. So be mindful not to make too many requests, as it may reflect poorly on your report/score. One notable exception of a "voluntary" request being seen as a hard pull is if you check your own credit score. This is something you're entitled to, so it will not cost you points.

A soft pull, on the other hand, is a pull that was involuntary. You may have received letters in the mail from credit card companies saying that you've been pre-approved for a card. This is probably because they made an inquiry to do a soft pull on your credit information and determined that you are a good candidate for borrowing. Soft pulls do not affect your score, but will show up on your credit report so you know who's been asking for your information.

There are two types  of credit scoring systems that a majority of lenders look at: FICO and VantageScore. Most lenders prefer to use the FICO score, since its parent company, the Fair Isaac Corporation, created the concept of credit scoring in the 1980s. VantageScore came much later as a competitor to the FICO score. Different credit agencies have also created their own scoring system as a supplement to FICO and VantageScore, so when you purchase your score, make sure you know which scores are provided.


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