The Doctor Of Credit on Credit Scores..

A few days ago Matt had a post called “Is Credit Sesame Accurate?” which looked at possible reasons as to why his Credit Sesame & Experian credit scores were different. Today I’m going to go into a little bit more depth on what exactly a credit score is, and how and why they differ.

What Is A Credit Score?

A credit score is a numerical value (generally three digits) that aims to determine an individuals credit worthiness. Lenders use credit scores to get a quick idea on how likely somebody is to repay their debts, the higher your score the more likely you’ll repay your debts.

People with high credit scores will therefore be approved for better credit cards and have lower APRs (annual percentage rates) on their mortgages, conversely people with a low credit score will not be accepted for certain credit cards and will have higher APRs on their mortgages.

Why Does My Credit Score Differ?

If you ever received two or more credit scores, the first thing you’ll notice is that they probably aren’t the same. This can be for a few reasons:

• They use different data sources
• They use a different scoring algorithm
• They are based on information from two different time periods

Different Data Sources

In the United States there are three major credit bureaus (TransUnion, Equifax & Experian). Each of these credit bureaus maintain their own information on every individual. That means your TransUnion credit report will not necessarily be the same as your Equifax credit report (and the same again with your Experian credit report).

When you fail to make a payment and become delinquent on a line of credit, most lenders will report this to all three of the credit bureaus. But for smaller credit report items, such as applying for a new credit card, most lenders will only report this to one credit bureau.

For example, most people will find their TransUnion credit score to be higher than those from Equifax & Experian. That’s because TransUnion is used the least by lenders when reporting an application for new credit (which causes your score to temporarily drop by approximately five points for 3-12 months).

Different Time Periods

Even if you compare two credit scores that use the same algorithm based on data from the same credit bureau, the scores might be different. That’s because the data found in the credit report may have changed, for example, if you compare two scores one year apart there are a lot of factors that will cause the scores to be different. Here are a few factors that may have caused your scores to change over a year:

• New accounts added
• Different credit utilization ratio
• Accounts have aged over that year
• Late payments in that period

Different Scoring Algorithms

There isn’t just one credit score, there are many different varieties out there. If this surprises you, it shouldn’t – credit scoring is big business (FICO who is the largest credit scoring provider has a market cap of 1.92 billion).

Each credit score has their own algorithm that’s used to calculate your credit score.

Which Credit Score Should You Most Be Worried About?

The most commonly used score (by lenders) is the FICO score, which is used in 90%+ of lending decisions. The VantageScore, which is the second most used score only has a market share of 6%, with various other internal scores and FAKO scores (this is the name given to all other scores that are not FICO) accounting for the remaining.

Now before you think yourself “Ok great, well I can just check my FICO score from each of the three credit bureaus and I’m set”, you should know that everybody actually has 49 different FICO scores. That’s because there has been several revisions of the FICO score, these are referred to by the year they were introduced:

• 1998
• 2004
• 2008

Even if there are three different revisions and three different credit bureaus for each of these revisions, that only adds up to 9 FICO scores, what about the other 40? I hear you screaming. Unfortunately we need to add in another level of complexity.

FICO also has industry specific scores for each revision. These have different score ranges (200-950) and are only available to lenders directly. The industry specific scores are as such:

• Bankcard enhanced (used by lenders when an applicant applies for a credit card)
• Installment loan enhanced (used by lenders for installment loans, such as a mortgage)
• Auto loan enhanced (used by lenders for auto loans)
• Personal finance enhanced (used by lenders for personal loans)
• Mortgage enhanced (used by lenders for mortgages)

Now these industry specific scores aren’t available to individuals directly (although you will be notified of any credit score used by lender if adverse action is taken), so don’t worry about these too much. The difference between these and the classic scores available to consumers is usually minimal, it’s more about putting different weighting on different types of loans. For example, if you are applying for a mortgage than your history of repaying previous mortgages (or any other type of installment) on time is more important than your history of paying your credit card bill on time.

How Can I Tell What Credit Score I’m Getting?

If the website isn’t advertising the fact that they offer a FICO score, chances are you’re getting a FAKO score. Most websites will make it difficult to find what credit scoring algorithm  they are actually using, so I put together the following little chart for saverocity readers with the most popular websites along with what credit score they use and what credit bureau the score is based on.

* Equifax offers the “Equifax credit score” on their Debt Wise and Complete products. They offer the Equifax 2004 Classic score on their Score Watch and 3 in 1 Monitoring products.

There is nothing wrong with looking at your FAKO scores and they can be a good way to see if your credit score is improving or declining, but I wouldn’t suggest paying for the privilege. You can find out your FAKO score for free from each of the three credit bureaus (which also comes with free credit monitoring) by using the first three sites listed in the above table.

When Should You Know Your Credit Score?

The only time you really need to know your FICO score, is before you apply for a large amount of credit (e.g for a car or house). Banks offer different interest rates based on your credit score and this can quickly add up when you’re talking about a large 30 year mortgage. For example on a mortgage of $289,650 (average mortgage in the US, August, 2013) for 30 years (most common mortgage length) a difference of 0.13% (the estimated interest rate difference between a person with excellent credit and very good credit), you’ll end up paying an additional $7,848.45 over the life of the loan and this amount only increases as your FICO score decreases.

Got A Question?

If you have a question, feel free to ask William in the comments. He’ll be sticking around to answer all of your questions and will also regularly check back.

William Charles is a consumer credit advocate and editor at Doctor of Credit, where he regularly blogs about FICO scores, credit cards, bank account bonuses and changes to consumer credit laws.