Why Should I Worry About My Credit Score?

The Fair Isaac Coporation, creators of the FICO credit scoring system, recently discoverd that 49% of people polled did not know that credit scores measure credit risk. Even if you already know the basic facts about credit, you may not realize the impact credit can have on your life, and how your credit report plays a role.

Your credit score, like your driving or medical records, follows you everywhere you go. However, your credit score can fluctuate daily without you doing anything to directly affect it; it can even fluctuate daily! This is because creditors (like credit card companies, lenders, and mortgage holders) report your payment record on different days of the month. So if your credit card company reports good payments on the 1st, your score will go up. And if your mortgage lender reports a late payment on the 15th, your score can drop several points.

In addition, your credit score is calculated differently depending on which credit bureau you use. The mathematical engine that powers the FICO calculations is proprietary, meaning no one outside of Fair Isaac has direct access to the equation. Experian, TransUnion and Equifax all use their own calculations based on the FICO math, but they are are all different. You could have a 720 with Experian, a 744 with TransUnion, and a 729 with Equifax.

You score is sensitive to everything you do financially, so it is important to periodically find out what is going on with your credit by requesting your credit report. Regardless of the state of the economy, people in the United States and Canada will have much easier lives if their credit is good. For instance, your credit score determines:

What kind of rate you will get on all types of insurance
If you can qualify for a home mortgage and at what rate
Whether or not you will be hired for certain jobs
If you can qualify for an auto loan and at what rate
For which types of credit cards you can qualify
Refinance options for every line of credit you can take out

Mortgages For Example...

To give you an idea of the effect your credit score can have on your life, let's consider how a home mortgage might be calculated. Assuming you are buying a home to live in for an extended period of time, you will most likely be looking for a traditional, 30-year fixed-rate mortgage. This amount of money you actually end up paying in interest on the loan will vary depending on what rate you get. And what determines your interest rate? Primarily your credit score.

For example: you are buying a home and need a $250,000 loan to cover the purchase. Your mortgage broker tells you that in the current loan market, she can offer you a $250,000 loan with a 6.750% interest rate. Your broker also tells you that if you had a better credit score, you could get the same loan but with a 5.750% interest rate.

Over the life of the first loan, you would end up paying a total of $583,738.29 for the house. For the second (good credit) loan, you would pay $525,215.57 over 30 years. The savings? $58,522.72, or approximately $162 a month.

That's an extra $160 a month that you could put toward retirement, buying stocks, saving for college educations, or even just spending on a special night out each month!

Credit and Job Applications...

It may surprise you but the credit check is becoming a key indicator during the hiring process. Your score serves as a general measure of responsibility and organization. As the job market tightens even more, hiring managers are going to need more ways to differentiate one candidate from another. Also, previous employers are shying away from being too forthcoming about a previous employee due to threats of libel and lawsuits. It is in your best interest when job hunting to present yourself as best as possible to a prospective employer and to have your credit score in order when job hunting.

It is surprising to some people when they learn that credit checks are becoming a larger part of the job application process. While companies begin to shy away from honest evaluations of a past employee's experience (due to lawsuits and the threat of slander allegations) managers continue to look for more ways to distinguish one candidate from another. Your credit score serves as a general indicator of your overall level of responsiblity, a good quality in a candidate no matter what the company does.

Credit Scores and Credit Cards

Your credit score affects the way you get and use credit cards in two ways: the rate of interest, and the type of card.

As with mortgages, auto loans, and other arrangements, credit card companies will determine your interest rate based on your credit score. The better your score, the lower your rate of interest. While it is usually in your best interest to pay off your credit cards in full each month, there may be times when it's simply not possible, and a lower interest rate means lower finance charges at the end of the month.

The type of card you can get is also affected by your credit. If your credit is bad, you will most likely be offered a secured credit card, which is a type of card backed by real money (almost like a debit card). If you have good credit, credit card companies (like Visa, Mastercard, American Express and Discover) will offer perks and rewards for you to open an account with them. These perks can include cash-back on purchases, airline miles, concierge services, shopping discounts, or gas rewards. Whatever the offer, the best rewards are reserved for those with the best credit scores.

Clearly, your credit score affects your life on multiple levels: where you live, where you work, your options for how to pay for things. It is more important than ever to understand your credit report and keep it free of errors and negative information.