Fair Isaac Corporation -- the company behind your FICO credit score -- announced they will be releasing two new scoring models this summer. Below is a look at how the models are changing, the ways in which your score may be impacted by the switch, and what you can do to keep your score in good shape. Keep reading to learn what you need to know going forward.
What is a FICO score?
Your FICO score is a three-digit credit score that you’re given based on the information in your credit reports. It tells lenders how likely you are to repay a loan and, in turn, plays a role in how likely you are to be approved for new financing and how much you have to pay for the privilege of borrowing.
There are other credit scores, but FICO scores are the most common. Their model is based on five factors:
- Payment history (35%): Whether you have a history of making your payments on time.
- Credit Utilization (30%): The percentage of credit you’re currently using compared to your total amount of available credit.
- Length of credit history (15%): How long your credit accounts have been established.
- New credit (10%): Whether you’ve opened multiple new accounts within a short period of time.
- Credit mix (10%): How much of your available credit comes from credit cards versus installment loans like mortgages or personal loans.
As for what is a good FICO score, available scores range from 300-850. The higher your score is, the more “creditworthy” you’re considered to be.
How does the new FICO score work?
For the most part, the FICO credit score changes brought by FICO 10 and FICO 10-T won’t alter the main ingredients of your score. Instead, they’ll weigh certain consumer behaviors -- particularly those that are financial red flags -- more heavily than before.
For example, consumers who consolidate their credit card debt into personal loans, only to then go on and run up new balances, will be judged more harshly under the new FICO rules.
In addition, rather than looking at a month-long snapshot of consumers’ credit habits, FICO 10-T will take into account 24 months' worth of trended data. It will indicate, for instance, if you have a history of paying your balances on time or if your credit utilization has a tendency to spike over the holidays, but remains low for the rest of the year.
This data is thought to be more predictive of a consumer's overall spending habits, which will give lenders a clearer picture of how clients manage their credit long-term and allow them to better assess risk levels when making lending decisions.
How will the new FICO scoring impact credit scores?
About 80 million people will see a shift of 20 points or more in their credit scores thanks to the new models, according to FICO. Of those, about half will see their scores go up and the other half will see a drop.
“If you already have good credit, this new system will more than likely make your credit score better,” said Amit Chopra, managing partner of Forefront Wealth Planning and Asset Management in Ramsey, N.J. “Alternatively if you have a bad credit score, this new system will likely make it go down even further.”
Those who have a high amount of credit card debt relative to their overall credit, or who have recently missed payments, could see the most significant drops. While those who don’t carry high balances and who make payments on time are most likely to see an increase.
Beyond those 80 million, FICO estimates that an additional 110 million consumers will see only a modest change to score, if any at all.
“To help improve your score under the new system, focus on paying off credit card balances each month,” advised Chopra. “And make sure you’re never late with your payments, as that will weigh much more heavily in the new calculations."