You know how the credit crisis and recession have battered important national economic indicators, such as home prices, stock market indexes and retail sales. But how have they affected one of your key personal economic bellwethers — your credit score?
To find out, Consumer Reports Money Adviser turned to FICO, formerly known as Fair Isaac, the Minneapolis company that invented credit scoring. Here’s how a variety of today’s credit events may help or harm your score, sometimes surprisingly:
• Your card issuer reduces your credit limit. This may not affect your score as much as you might fear. A FICO study of 11 million credit files from April 2008 to October 2008 found little to no negative impact on most scores, including those of people whose credit limits had been cut.
• You close a credit-card account after a rate hike. This can hurt somewhat if you had a large credit line and a low balance because the scoring model will no longer include your vast, unused credit from this account when calculating the percentage of total available credit you’re using.
• You pay down or pay off credit balances. This helps by reducing your total credit use as a percentage of your available credit. According to Consumer Reports Money Adviser, paying down balances is one of the most effective ways to improve your credit rating.
• You get a mortgage modification or short-sell your home. The impact will probably be negative, though it depends on your other credit and how the lender reports the transaction. If a loan modification or short sale (selling the house for less than the mortgage, with the lender accepting the proceeds to pay off the loan) is reported as “in partial payment,” “deferred payment,” or some other “not paying as agreed,” your score could suffer substantial damage, even if that’s the only blemish.
• You were rejected for a loan several times. A small negative. The scoring model doesn’t know if you’ve been denied credit, but it will see all the prospective lenders’ inquiries. Too many of them may be seen as risky credit-seeking behavior. The actual impact on your score, however, is only a small ding.
• You have a subprime or adjustable-rate mortgage on your credit report. This has zero effect on your score. The underwriting terms of the loan, including those that might expose you as a big risk, are not provided to credit bureaus and aren’t figured into the FICO score.
• You get debt relief from a credit counselor. This has a negative effect on your score. If you enter into a “partial payment agreement” with a debt-relief firm, it’s usually reported to the credit bureaus, dinging your score despite your responsible approach to dealing with too much debt.
• You get a “goodwill correction” from a lender. A positive. FICO doesn’t track changes on your credit file, so if a creditor removes a negative item today, the scoring model won’t know it ever existed.
• You pay the mortgage and auto loan but fall behind on your other bills. This hurts your score. According to Consumer Reports Money Adviser, the FICO model doesn’t weigh delinquency of one type of loan any more or less than a missed payment on other types of credit. And even bills that aren’t generally reported to credit bureaus — say, a doctor’s bill — could eventually show up on your credit report if the unpaid debt is sent to a collection agency.