A credit rating represents an evaluation of one’s creditworthiness with regards to a company or government or any business enterprise’s ability to issue debt.
This information is presented in numbers and descriptions and does not evolve from any mathematical formulas. Rather, the rating is determined on the basis of the collective information, both private and public, that is summarized and estimated by a credit rating agency.
Credit Rating Agencies
The main credit rating agencies operating in the U.S are:
These are the most reputable credit rating agencies that assign credit ratings according to the letter designation scale (e.g. A, B, C).
Apart from credit ratings there are also credit scores and they are frequently used synonymously; however, there is a difference. As opposed to credit ratings, credit scores are based on mathematical formulas and algorithms.
Credit scores represent information with a certain numeric value that is contained in a person’s credit report.
If credit rating refers to companies, the credit score is the evaluation of an individual’s financial history and all the assets/liabilities he or she possesses.
A person’s credit score represents the evaluation of a person’s solvency. It is based on the data from a person’s credit report/history. The latter is drawn up by the credit bureaus that carry out statistical analyses of all individual’s credits ever taken.
In the U.S. there most common and the most wide-spread scoring model used is called the FICO score. It was originated by Fair Isaac Co and at the present moment, it is a publicly-traded corporation that is used by the three largest American credit repositories. They are:
Each person in the U.S. has got 3 scores that are provided by these 3 credit bureaus.
There are 5 main categories that define the FICO score. They are the following:
- Payment history. It includes all personal repayments and public records and constitutes about 35% of the score.
- Next come amounts owed. They represent the amount that you owe in total and it is 30% of the score. This is money on your accounts and this category weights a lot.
- Length of credit history also has got certain weight – about 15%. This stands for the time span since your accounts were opened and active.
- The types of credit used by a person refer to 10% of the score.
- The same (10%) refers the fact whether a person applied for any new credits and the number of newly opened accounts.
The following categories are not taken into consideration: race, age, marital status, employment and income information as well as address. They are not taken into consideration when the FICO score is counted.
The minimal FICO score is 300; the maximum is 850. The lower the score is, the higher is the risk for any potential lender:
- lower than 620 is bad
- 620-649 is poor
- 650-699 is fair
- 700-749 is good
- 750 and over is excellent
The main idea about a credit score is that it defines a person’s chances to get a credit from a financial institution. The higher is the score, the more approving banks are about a person’s application. The thing about such financial institutions is that they need to be positive about a client’s solvency and they do not like to take risks. They pay attention to the ability of a person to repay and the previous loan history, repayment schedule, current debt and the amount of requested loan and its interest.
What is actually meant is that the state of a person’s credit score defines, whether the application will be approved or denied, when it comes to bank loans.
This information can also be used by short-term lenders in the course of the application process. One of the reasons why payday loan services are popular among bad credit history customers is that the terms of small cash lending are usually more lenient. It is possible for a person with a relatively low credit score to be approved for a payday loan (even if a credit check reveals a fairly low score and inconsistent history). Such a thing is not possible while applying for a bank loan, especially when it comes to large and long-term loans. However, with payday loans, the chances for approval are higher.