Credit Scoring
Presented by
Will VanderToolen
Director of Counseling Services
AAA Fair Credit Foundation
www.faircredit.org
What do we want to Accomplish:
1. Understand Credit Scoring
and Credit Reports
2. Help students understand
Credit through the use of
classroom activities
A Little Credit History
Credit reporting was born more than 100 ago, when small retail
merchants banded together to trade financial information about
their customers. The merchant associations then turned into
small credit bureaus, which later consolidated into larger ones
with the advent of computerization.
By the 1960s, CRAs back then reported only negative financial
information as well as "lifestyle" information culled from
newspapers and other sources -- information such as sexual
orientation, drinking habits, and cleanliness.
The controversy led to a congressional inquiry, and in 1971,
Congress passed the Fair Credit Reporting Act (FCRA), which
established a framework for fair information practices to protect
privacy and promote accuracy in credit reporting. Consumers
gained the right to view, dispute and correct their records, and
CRAs began to supplement the often-bleak reports with
information on consumers' positive financial history.
What is a Credit Score?
• Snapshot of a person's financial standing at a
particular point in time
• The one most widely used is the "FICO" (Fair Isaac
Corporation) score
• The FICO score, a three-digit number between 300
and 850
• The scoring system awards points for each factor that
can help predict the likelihood of a person repaying
debts on time
• The higher a credit score, the more likely a person is
to be approved for loans and receive favorable
interest rates.
National Averages
National Distribution of FICO Scores
% of Population
30%
25%
20%
15%
10%
5%
0%
80
75
70
65
60
50
50
0+
79
0-
74
0-
69
0-
64
0-
59
0-
9
54
0-
49
0-
9
9
9
9
9
9
FICO Score Range
How Are Credit Scores
Calculated?
• Scores are computed using a patented
mathematical algorithm, designed and sold
to credit bureaus by FICO. (VantageScore™
recently released)
• There are theories as to what affects or does
not affect your score but no one, especially
FICO, will give you the formula, so in reality it
is any ones best guess.
• Your score considers both positive and
negative information in your credit report.
Other Names for Credit
Scores
FICO scores have different names at each of the
credit reporting agencies. All of these scores,
however, are developed using the same methods
by Fair Isaac, and have been rigorously tested to
ensure they provide the most accurate picture of
credit risk possible using credit report data.
CRA
Credit Score
Equifax
Experian
Beacon
Experian
Trans Union
Empirica
Credit Scoring Methodology
VantageScore
FICO and VantageScore use two different ranges.
The classic FICO scale runs from 300 to 850,
while the VantageScore starts at 501 and runs to
990. The credit bureaus are now saying the
VantageScore range is more "intuitive," because it
breaks down like the familiar academic scale:
901-990 equals "A" credit
801-900 equals "B" credit
701-800 equals "C" credit
601-700 equals "D" credit
501-600 equals "F" credit
Fair and Accurate Credit
Transactions Act (FACTA)
• www.annualcreditreport.com (ACR) enables
consumers to request a free credit report once
every 12 months from Equifax, Experian, and
Trans Union
• ACR is the only source authorized by all three
nationwide credit reporting repositories
• ACR provides consumers with a safe, secure,
convenient way to request credit reports annually
Obtaining a Copy of Your
Credit Report
• Internet
• www.annualcreditreport.com
• Mail
• Annual Credit Report Request Service
P.O. Box 105281
Atlanta, GA 30348-5281
• Phone
• 1-877-322-8228
How do I obtain my Score?
• You can purchase your credit
score from each bureau
– www.equifax.com
– www.experian.com
– www.transunion.com
• You can also purchase it at
www.annualcreditreport.com
• All three scores may be different
(due to reports containing different information)
How Does A Credit Score
Help Me?
• Improves risk assessment
– Lenders, Insurance, Employers, Housing
• More equitable treatment among
borrowers
• Able to qualify more quickly for credit
• Credit “mistakes” will not affect your
ability to obtain lending as drastically
What’s In Your FICO Score?
Payment History
• Pay your bills on time.
• If you have missed payments, get
current and stay current.
• Be aware that paying off a collection
account will not remove it from your
credit report.
Amounts Owed
• Keep balances low on credit cards
and other “revolving credit”.
• Pay off debt rather than moving it
around.
• Negotiate with creditors for better
terms.
Length of Credit History
• Rapid account buildup can look risky if
you are a new credit user.
• Don't open a number of new credit
cards that you don't need, just to
increase your available credit.
• Don't close unused credit cards as a
short-term strategy to raise your score.
Types of Credit Used
• Apply for and open new credit accounts only
as needed.
• Don’t use unnecessary credit just to try and
build your score.
• Use and manage credit cards responsibly.
In general, having credit cards and
installment loans (and paying timely
payments) will raise your score.
• Note that closing an account doesn't make it
go away. A closed account will still show up
on your credit report, and may be considered
by the score.
Credit Maintenance
Overview
• Don’t get into debt just to build credit.
• Avoid becoming overextended. This
will lower your score.
• Avoid excessive accounts. Having too
much available credit can create
concern with lenders.
• There is no quick fix if your credit has
been damaged. It will take time and
planning.
Plan your Credit Makeover
•
•
•
•
•
•
•
Obtain your credit reports
Review and understand your credit
Dispute any discrepancies
Review the types of credit you have
Make all payments on time
Pay down debt
Maintain accounts long-term
Application for Students
What I Knew in HS
• I needed to save before purchasing
• It is important to pay bills on time
• I should work hard for my paycheck
What I Didn’t Know
•
•
•
•
•
•
How interest works
Balancing Accounts
In depth understanding of credit
Credit Reports
Budgeting
How investments/stocks work
National Endowment for
Financial Education (NEFE)
• 19% almost always confident with
financial decisions
• 18.5% set aside money as savings
• 42% say they knew the difference
between needs and wants
• 9% set financial goals
Credit Score
• Homework for a class = Payment on
an account
• Good Grade = Positive Account
This leads to:
High GPA = High Credit Score
This leads to:
Qualify for College = Qualify for Loan
Pop Quiz
• Needing credit can be like a pop quiz
• You don’t always know when it will
happen…(need new auto after accident)
• Think about what your grades look
like right now, how are you doing?
• The same is applicable to credit
Credit Worthiness
• Which friends are you likely/not likely
to lend money to? Why?
• What would you say if another
person asked you if it were safe to
lend to your friend?
• What if someone you didn’t know
wanted to borrow from you?
Credit Score Estimator
• MyFico.com (credit score estimate)
• Create multiple scenarios
– Name, # of Accts, Payment History, etc.
• Have kids research scenarios
• Class - guess the estimated score
• Preferential treatment to high scores
Why work for a High Score?
• Lower Credit means the bank
considers you a higher risk, they
require a higher return (Interest Rate)
• You have a higher rate, which means
a higher payment for the same item.
• Different credit types offer different
rates
The Cost of Credit - TV
• Television: Regularly $900, on Sale for $850
– Savings- the cost is $850 ($900 if no longer on sale)
– Credit Card – at 21% interest over 12 months
the cost is $79 per month or $950
– Rent to Own – at 100% interest over 12
months the cost is $114 per month or $1377
Cost of Credit - Auto
• An Automobile Loan
– Pay $15000
– Loan Terms 60 months at 7%
– Payment = $297 a month
– Total Cost of payments
= ($297)x(60 months) = $17,821
Cost of Credit - Auto
• New Situation – Poor Credit History
• An Automobile Loan
– Pay $15000
– Loan Terms 60 months at 17%
– Payment = $372 a month
– Total Cost of payments
= ($372)x(60 months) = $22,367
Cost of Credit - Mortgage
• Mortgage Financing
– Pay $200,000
– Loan Terms 360 months at 6%
– Payment = $1199.10 a month
– Total Cost of payments
= ($1199.10)x(360 months) = $419,796
• Bad Credit
– Same loan at 8%, Payment = $1467.53
Cost = $528,310
Before you Buy
Ask yourself these three questions:
1. Is this item worth going into debt
for?
2. What makes you think you will have
the $ to pay it next month if you
don’t have the $ this month?
3. How much will the item cost with
interest included if you re-pay over
time?
Credit = Savings Account
• Country is at a point where the
Savings Rate has been negative
• We spend more than we make
• We transform wants to needs
• Credit has become the savings
account
• How is this different from times after
the depression?
Self Evaluation
• Is the Student responsible for any
payments (How often are they paid on time/late?)
• Do they know the difference between
Debit / Credit cards?
• Do they know how interest works (use
amortization schedules)
• Know how to create/follow a budget
• Do they balance bank accounts?
Self Evaluation
(cont.)
• How well do they manage cell phone
plans?
– Do they go over their minutes/texts?
• This could be an indicator of how
they would use credit
– NOTE: If they have unlimited texts, know that
there isn’t unlimited credit
– Could they restrict themselves, Try
Rate Shopping
• Have students shop around for the
best rates on bank accounts
– Don’t forget to get the fine print
• Visit Credit Card sites in class, view
the application and read the fine print
• They always shop for the best
product, they should also shop for
credit
Budgeting
• Help them develop a ledger
– One for each account
– Having checks doesn’t mean you have $
• Track ALL income and expenses
– This can be done on paper, computer, check
book, etc.
– Track debt payments (possibly to parents)
• Compare to Business cash flow
Avoid the Credit Traps
•
•
•
•
High Interest Predatory Loans
Free T-shirt / Blanket / Hat
Buy now pay later (with huge interest cost)
Music or other clubs with required
purchases
• Co-signing
•
Read the fine Print
Budget Homework
• Research the cost of living
– Average Family Costs: Housing & Utilities,
Transportation, Food, Clothing, Medical, Etc.
– Call and get quotes, speak to others about costs
• Develop a Budget
– How much income is necessary?
– What if credit is bad, payments increase?
– Evaluate ways that families can save money
Payment Organization
Homework
• Create a list of bills
– Due dates, Minimum payments, Balance
• Organize the bills so that they are
paid on time and according to
income
– Show savings from previous month may be necessary
due to the timing of due dates and pay dates
Class Investment
• Have each class member pick a
stock
• Create a pretend portfolio with a
certain amount of $ invested in each
stock
• At semester’s end, see how each
stock and the portfolio have changed
Who wants to be a
Millionaire?
• The time value of Money at age 18:
– Save $91 a month until 65
– ($91)*(47 Yrs)*(12 Mo/Yr) = $51,324
– At 10% Investment Return, you will make $1 million
from 51K!
• Wait until 40 to start saving:
– You will need to save $805 per month
– ($805)*(25 Yrs)*(12 Mo/Yr) = $241,500
– You will still make $1 Million, but it will cost more
Resources
•
•
•
•
•
•
•
•
www.utjumpstart.org
www.fdic.gov (Money Smart Curriculum)
www.myfico.com
www.handsonbanking.com
www.nafcu.org (Financial Education Curriculum)
www.consumercents.com (Financial Literacy)
News Sites
Bank and C.U. Sites
Questions & Answers
Will VanderToolen
AAA Fair Credit Foundation
Director of Counseling & Education
800-351-4195
will@faircredit.org
www.faircredit.org