The Bottom Line

Heavy consumer borrowing is a reality for many Americans. So, it’s more important than ever for every consumer to be smart about his or her credit habits and ability to borrow. And the main way that lenders measure this ability: credit scores.

Credit scores are the results of programs that lenders use, based on information that other lenders report to central information clearinghouses, to make decisions about how you’re likely to pay.

Credit scoring systems award people points for having credit, using it and making payments on time. The more points you have, the better your credit. Every time you use a credit card and pay the balance on time, your score goes up; every time you go over your credit limit and pay late, your score goes down.

Other financial or legal factors also are counted. Having over $100,000 in cash in the bank raises your score; declaring bankruptcy lowers it. A lot.

In the U.S., most lenders use some version of the scoring system developed by Fair, Isaac & Co. A person’s “FICO score” ranges from 400 to over 800 points. The range works something like this:

• A score of 420 means you can’t get a credit card, car loan or home mortgage.
• A score of 570 means you can get any of these—but you won’t get the best, advertised interest rate. And you’ll probably have to pay extra fees.
• A score of 720 means you’ll get the best interest rates and the fewest fees.

Credit scores are fluid things. They can change as quickly as monthly…though they usually change on a quarterly basis.

Smaller changes usually occur more slowly; bigger changes—if you declare bankruptcy or win the lottery—occur more quickly.

Your credit score is probably the most important aspect of your life that isn’t managed by the government. It’s controlled by a loose affiliation of banks, credit card companies, other kinds of lenders and the credit bureaus that track all of the information.

If you’re like most Americans, you have only a vague idea of where you stand, in terms of your credit score. Many people pay closer attention to their mortgage interest rates or the deal they got on their car. There’s something unpleasant about checking the details of your credit score—even if, in truth, it’s not so bad.

Likewise, many Americans are conditioned to look at certain aspects of a credit deal but ignore others. Did you sign up for a special low-interest promotional card offer without reading any of the fine print? In some cases, any purchases beyond the initial promotional offer may incur shockingly high interest rates.

Electronics stores often play a variation on that scheme. They will offer a captive card with a low interest rate—sometimes a zero-interest rate. But the special deal is only good for the first purchase on the card. Everything else comes with a rate of 17 or 20 percent.

Do you know what will happen if you miss a payment or two on any of your credit cards? What about your auto loans? Home loans? In many cases, the interest rates will shoot up.

Next: Conclusion