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10 things you must know about credit reports and credit scores

Summary

You may have heard the terms credit history and credit score. But what exactly is a credit history, what is a credit score -- and why are they so important?

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By Jeremy M. Simon

Credit card tips mentioned in this article

  1. Lenders look to credit histories.
  2. Consumers should care about credit.
  3. Credit bureaus track borrowing behavior.
  4. Credit reports include several types of information.
  5. Some credit report information could be wrong.
  6. Credit report data used to calculate credit scores.
  7. FICO score is the most widely used credit score.
  8. Other credit scores.
  9. Credit history for free, credit score for a price.
  10. Service providers, employers may also consider your credit report.

You may have heard the terms credit history and credit score. Consumers who hope to borrow money may know that the lending industry uses credit histories and credit scores to help determine whether they get approved for a credit card, loan or mortgage. But what exactly is a credit history, what is a credit score — and why are they so important?

1. Lenders look to credit histories. Before lending money, banks and other creditors look to a consumer’s credit history — basically a record of whether or not you’ve paid your bills — to make sure the borrower is likely to repay them. That credit history, contained in a consumer’s credit report, determines how much credit is made available to you and under what terms, such as the interest rate.

2. Why you should care about your credit. Credit reports matter to consumers because lending decisions are based on them. When you’re applying for credit — whether it’s a credit card, a car loan, a personal loan or a mortgage — lenders want to know your credit risk level. More bluntly, they want to know if they give you a credit card or loan, whether you will pay it back on time and in full.

3. Credit bureaus track borrowing behavior. The biggest three credit bureaus in the U.S. are Experian, Equifax and TransUnion. These companies, and a host of smaller ones, keep records of how you have previously behaved when loaned money, such as whether you paid it back on time, who you still owe money to and how much you may still owe. “We acquire data from public records and companies who have a relationship with the consumer and with the credit reporting agency (i.e., existing creditors, companies with whom the consumer has applied for credit and collection companies),” an Experian spokeswoman said via email.

4. Credit reports include several types of information. Experian’s spokeswoman said a consumer’s credit report contains four types of data on the borrower: identifying information (including name, address, phone number, Social Security number, date of birth and spouse’s name), account history (individual credit account information such as the date opened, credit limit or loan amount, balance, monthly payment, payment status and payment history), data from public records (such as federal bankruptcy records, tax liens, monetary judgments and overdue child support payments) and a record of inquiries into your credit history.

5. Some credit report information could be wrong. A look at your credit report may reveal that it contains some incorrect information. It’s important to address these errors since they could hurt your ability to borrow money. If you find any mistakes on your credit report, get them fixed by contacting both the credit bureau that included the error and the creditor that supplied the inaccurate information.

6. Credit report data used to calculate credit scores. Just like a grade point average sums up all your schoolwork with a single number, your credit score sums up your borrowing history. Educational institutions look at your GPA to figure out where you rank as a student; lenders look at your credit score to determine how you rank as a borrower. “A credit score is a number that summarizes your credit risk, based on a snapshot of your credit report at a particular point in time,” Watts says. “A credit score helps lenders evaluate your credit report and estimate your credit risk.”

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7. FICO score is the most widely used credit score. Each year, billions of lending decisions are made using a FICO score. The company that pioneered credit scoring uses proprietary formulas to convert a consumer’s credit history into a three-digit number ranging from 300 to 850, with a higher number indicating a less risky borrower. “But no score says whether a specific individual will be a ‘good’ or ‘bad’ customer,” a FICO spokesman says. “And while many lenders use FICO scores to help them make lending decisions, each lender has its own strategy, including the level of risk it finds acceptable for a given credit product. There is no single ‘cut-off score’ used by all lenders.”

8. Other credit scores. FICO isn’t the only company offering a credit score. For example, VantageScore, launched in March 2006, is a credit scoring joint venture between the three major credit bureaus, Equifax, Experian and TransUnion. Although VantageScore uses its own unique scoring model, it has some similarities with the FICO score: The VantageScore measures your creditworthiness with a three-digit number (ranging from 501 to 990, with a higher score representing a lower risk) calculated using the information in your credit report from the three major credit bureaus. However, the FICO score still remains more widely used than VantageScore by creditors when making lending decisions.

9. Credit reports for free, credit score (sometimes) for a price. Under laws outlined in the Fair Credit Reporting Act, credit bureaus must provide consumers with a free copy of the borrower’s credit report once every 12 months. AnnualCreditReport.com offers consumers the ability to request a free credit report from each of the three major credit bureaus. Meanwhile, consumers interested in viewing their credit score will need to purchase one, such as online at myFICO.com. A growing number of [%Link?type=article&id=3507&text=”credit cards offer credit scores free“%] to their customers.

10. Service providers, employers may also review your credit report. It’s not only banks and credit card issuers that may consider your credit history. “Most lenders as well as many service providers and employers utilize consumer credit report information in assessing applications for credit, services and employment,” says Steven Katz, director of consumer education at TransUnion’s TrueCredit.com. In other words, credit histories impact more than just applications for credit — they may also matter when you are purchasing a cell phone plan or applying for a job.

See related: FICO’s 5 factors: The components of a FICO score, 10 surefire steps to get errors off your credit reports

Updated: Nov. 11, 2014

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