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Your Credit Score's All Wrong

You already know the drill. Before making a major financial move (financing or refinancing a home, getting a car loan, comparing credit histories with your betrothed), you have to review your credit report. This detailed record runs down your entire banking history, and if you order a credit score, it reveals your overall credit GPA -- a score based on your history of handling money.

Great stuff. Too bad it's not what your banker uses as the basis for his or her lending decisions.

That's right. While you're primping under candlelight, your lender is examining every pore of your finances via the harsh glare of a bare fluorescent bulb. Even if you wanted to apply extra concealer and a more flattering shade of lipstick, you couldn't re-create the lighting that banks use to check you out.

Credit bureaus are nearly as secretive about their special formulas as Coca-Cola (NYSE: KO  ) is about the exact amounts of corn syrup and various 13-letter ingredients it uses to quench the world's thirst.

Like the soda-pop king's sugar-water ingredients, the credit-reporting industry's scoring recipe is proprietary. It's how companies like the inventor of the ubiquitous FICO score, Fair Isaac (NYSE: FIC  ) , earn a living, after all. Unlike Coke, which is the same from the can, bottle, or fountain, FICO and its ilk offer different risk models to banks than they do to the general population. (Yet another scoring model gets peddled to insurance companies.)

There can be 20 or more points' difference between the credit score you order for around $5 and the one in your mortgage broker's inbox. At current rates, that could be the difference between qualifying for an 8% car loan or having to settle for a 10% one. Or a 30-year mortgage at 5.717% or 6.379%.

Oh, and just because Equifax says you're an 810, that doesn't mean that Experian agrees.

You say to-may-toe .
To add further confusion to the grading scale, each credit-reporting agency uses a different scoring system. "FICO" has become the "Kleenex" of credit scores. The acronym is often used as if it were a generic term for "credit score." But "FICO," a term based on the name "Fair Isaac Corp.," refers to that brand and that specific product. Its consumer arm -- MyFico.com -- sells FICO scores based on the information from each of the three major credit-reporting agencies.

The only credit-reporting agency that sells the FICO-brand score to consumers is Equifax (NYSE: EFX  ) . The other two major credit-reporting agencies, TransUnion and Experian, each sell a consumer score based on credit-risk formulas developed internally.

Depending on the mood of the marketing copywriters, you may find the scores being given various names. Not only that, but the grading scale is also different from agency to agency -- even though they all partnered with Fair Isaac to develop risk-assessment scores for business clients.

  • When you shop at TransUnion, you're offered a "Personal Credit Score" ranging from 300 to 850. The company sells its business clients a "Classic FICO Risk Score" (formerly known as an "Emperica" score).

  • Experian's consumer score is based on its own "PLUS Score" system, with scores ranging from 330 to 830. Its business-to-business score is the less catchy "Experian/Fair Isaac Risk Model."

  • At Equifax, you can buy your FICO score (scale 300 to 850), which is the same score (called a "Beacon" score) that gets sold to businesses.

Yet another kink in the consumer-scoring system is the lack of complete reporting. Lenders (and other reporting entities, such as landlords and utility companies) are not required to report any business activity or relationship you two have engaged in to any of the credit-reporting bureaus. Obviously, most of the big banks do. But that doesn't mean they report their business across the board.

Your stellar history with First Bank of Firstness may only be evident on your TransUnion and Experian credit reports. So if a mortgage lender checks your Equifax report, he or she won't even use that relationship as a factor when deciding your interest rate. (Conversely, the lack of standard reporting across all channels can be a boon to those with black marks on their bills.) This same issue is why identity-watch services that guard activity on just one credit file are ineffective.

You can call your lenders and ask that they report account activity or even set credit limits -- which many refuse to do because they want to discourage competitors from poaching. But there is no law that requires them to comply.

The credit score pageant
Despite the lack of consistency in the credit-scoring world, the 2001 amendment to the Fair Credit Reporting Act (the one that lets us access our once-off-limits credit score) was a win for the average card-carrying citizen. Although the score you're sold is not the same one your lender uses to make his or her business decisions, it's a fair indicator of how you'll be judged.

While you have no control over the algorithm that it's based on, you're very much in charge of everything else in your credit file. And it's this information that your mortgage broker, your car insurer, your potential employer, and anyone else interested in measuring your worth is plugging into their black box.

In general, we know that past payment history accounts for 35% of your score. The amount of money you owe holds a 30% weight. How long you've been in the system makes up 15% of your final grade. The amount of new credit you apply for affects 10% of your score, and the types of credit (retail accounts, installment loans) has another 10% impact on your overall score. (Here's more detail on how lenders keep score.) But these are just general guidelines.

A lot of little things can leave a semi-permanent mark on your credit record, and there are certainly smart moves you can make (here are seven) that will improve your score -- and the score lenders see -- before you apply for a loan.

But until borrowers are allowed to see the same three-digit score that lenders use, view your credit score with a grain of salt and concentrate on the underlying information that goes into forming it.

Coca-Cola is a recommendation of the Motley Fool Inside Value newsletter.

Want to take a stroll down memory lane? TrueCredit -- the consumer arm of TransUnion -- offers Fool readers a free credit score with its instant three-in-one credit report. The report includes data from the three major credit bureaus -- TransUnion, Equifax, and Experian.Fools pay just $29.95.

Dayana Yochimowns none of the companies mentioned in this article. The Fool'sdisclosure policyis a 900 on a scale of 330 to 850.


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