What's your FIFO score?

Monday, August 30, 2010
Brian Pershing

To a borrower, a FIFO score is comparable to how a golfer might view his handicap number. For the golfer, the handicap number assumes or predicts that he or she will be out-performed by the highest rated player by the number of strokes of the handicap.

How do golfers determine this handicap figure? This answer is "historical performance." Like a handicap number, a borrower's credit rating predicts how well he or she will perform in paying their debts.

The most commonly used credit rating by lenders is Fair Issac's FIFO score. In the golf example, the better the golfer the lower the handicap. Conversely, for borrowers, the higher the FIFO, the more likely they are to pay their debts according to their agreed upon payment schedules.

And, like the handicap, the score is based on past experience. The rating is not a financial strength rating in that it does not consider such things as a person's cash on hand, their net worth or their earning power. The rationale behind the rating is not about whether a person is capable of paying their debts...it's about whether or not they will pay them.

Those with the highest scores, mid to upper 700s and above, are more likely to be able to secure credit with the lowest interest rates. Those with moderate scores, upper 600s to lower 700s, are likely to be able to secure credit, but maybe not at the absolute lowest rates. Those with scores in the low 600s to mid 600s are less likely to secure credit; and, if they are able to, the terms will most likely include an unfavorable interest rate in order to help compensate the bank for taking the extra risk. And, scores under 600 will find it very difficult to secure credit.

As I've been asked by individuals how to improve their score, the best advice is to consistently pay creditors according to the agreed upon payment terms. However, even with the best intentions, consistently paying all debts on time can be difficult. While mistakes can be honest oversights, they become visible to your credit report as most creditors use software that reports delinquent payments to the three major credit reporting bureau's automatically.

To avoid these mishaps, setting up automatic payments is the best way to ensure timely payments. Once an individual shows a consistent pattern of paying their debts on time, they've won half of the credit score battle. Paying your mortgage payment on time provides the most positive impact.

When making timely payments is a problem, communicate with the creditor to make other arrangements or to agree with other terms and discuss with them the results on how these changes affect the credit reporting.

There are other things you can do to help your score as well. For instance, check your reports annually. Everyone is entitled to a free credit report each year at freecredit.com. While your score does not come automatically with the report (you have to pay for that) the report will show you what data is being used to calculate your score. This is your opportunity to make sure false information is not being reported and to verify your credit accounts that are in good standing are being reported.

When it comes to figuring out how to contact the credit bureaus to make these changes, don't reinvent the wheel. A simple trip to the personal finance section of your favorite bookstore will provide ample information and sample letters on how to do this.

Also, keep open and available credit to a limit. For instance, you may not have much borrowed at any one time; however, if you have too many accounts open, including department store accounts, your credit score is negatively reflected due to the possibility that at any time you could load those accounts and have to repay them.

In general, a person may have a mortgage, a couple of installment notes on a car or student loan, and maybe three or four open accounts. This scenario provides the credit bureaus plenty of payment experience to rate you. Beyond this, additional open credit is likely to hurt you.

Then, keeping the open lines paid down as much as possible helps as well. If revolving accounts, such as credit cards, show that a high percentage of the available credit is outstanding (whether or not it's a large line), the FIFO score is lowered as it is assumed that you are having trouble or are unwilling to pay the debt down.

In general, long-term credit relationships are more helpful to your score than newer relationships. The theory is that long-term credit relationships equate to the long-term ability to keep that creditor happy. Newer credit is considered too fresh to help the score.

Additionally, credit checks performed by lenders when seeking credit also lower the score. As a borrower, it's important to weigh the positives of seeking better terms from a new creditor versus the potential negative impact to the credit score.

Also pay close attention to non-routine creditors such as medical providers or taxing authorities as they report delinquent payments too.