Summary: FICO Scores Unlock Your Wealth Potential
(Estimated reading time: 14 minutes)
This article breaks down FICO scores and credit for anyone who wants to leave a financial legacy for their family, friends, and faith community. It covers the history of credit, the FICO company, score, and general credit scores. It also discusses what credit means and why great credit is important in your financial life. Plus, it dives into how your credit score impacts your ability to get credit. We’ll also talk about how credit and debt play a role in your wealth-building goals. This robust examination answers common questions about credit and how it hinders or helps your financial legacy.
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Table of Contents
- Introduction
- What is Credit?
- Credit a Precursor to Modern Times
- Fair Credit Reporting Act
- Credit Reporting Agency to Credit Bureaus
- What is a FICO Score and a Credit Score?
- FICO Score Why Knowing Yours Matters?
- Can Your FICO Score Impact Your Wealth?
- FICO Score Practical Tips to Improve It
- Conclusion
- Get Your Free Credit Report
- Resources (Dig Deeper)
Introduction
Have you ever wondered what FICO is and how it affects your financial life? I’m here to demystify it for you. My target audience is those 40-plus-year-olds who desire to build a financial legacy to live enhanced lives and leave a solid wealth foundation for their family, friends, and faith community. Credit and debt play a significant role in wealth attainment and management. This comprehensive article will reveal what FICO and credit are, explain why they matter to you, examine how your FICO score impacts your credit, explain how credit and debt affect your wealth-building activities, and cover tips to improve your score. By the end of this article, you will have the tools you need to build a solid credit foundation while continuing your wealth creation journey.
What is Credit?
In a nutshell, consumer credit refers to the ability of individuals to borrow money or incur debt for personal, family, or household purposes. It allows individuals to access goods and services without paying for them upfront with cash. That is how we understand consumer credit today, but the practice has a long and sometimes tainted history.
Before the 1900s, credit (the way we understand it) in America was mainly for businesses.
For customers (consumers), credit meant the local store owner wrote your name in their ledger for items you got during a specific period (e.g., your tab). When you got ‘paid’ (actual currency, i.e., silver or gold, your harvest came in, or maybe you built or made something to exchange), you’d go into the store and settle your bill. However, after the 1900s, credit expanded as the country’s middle class and wages grew. There was a need to classify and categorize potential borrowers. This need spawned the rise of entities that filled the gap and the eventual emergence of the credit reporting industry as we know it.
Credit a Precursor to Modern Times
Business Credit Reporting
The credit reporting industry of today is far different than the original version.
A recognizable name today, D&B, Dun and Bradstreet (DNB), was a forerunner in America regarding credit related to businesses and their owners.
In 1849, John Bradstreet formed a credit reporting agency in Cincinnati, Ohio, while in 1859, Robert Graham Dun bought the Mercantile Agency and renamed it R.G. Dun & Co.
Initially, the Mercantile Agency of New York was created by Lewis Tappan in 1841. With a subscription to the Mercantile Agency, merchants and shopkeepers could request information regarding prospective customers about their honesty and reliability (to gauge the risk of doing business with them).
John Bradstreet and Robert Dun merged their companies, creating the entity we know today as Dun & Bradstreet (DNB).
Eventually, DNB published credit ratings for businesses, using a combination of letters and numbers to indicate financial strength and creditworthiness. This early system laid the groundwork for today’s alphanumeric credit scoring models.
Consumer Credit Reporting
On the customer (or consumer) side of things, in 1899, Cator and Guy Woolford founded the Retail Credit Company (RCC) in Atlanta, Georgia. By 1920, the company had offices throughout North America, and by the 1960s, RCC was one of the country’s largest agencies reporting on individuals’ creditworthiness, holding files on millions of Americans.
However, RCC’s practices were heavily biased and prejudicial, e.g., the organization collected data such as race, political affiliation, and sexual behavior. Nearly seventy years after the Woolford brothers founded RCC, their derogatory practices were finally addressed by U.S. lawmakers. This was to give consumers some control over what was on file in their credit history and demand deeper transparency by entities like RCC. Actions by Congress ultimately legislated what we know today as the Fair Credit Reporting Act.
Fair Credit Reporting Act
Until governmental intervention, consumers quickly became prey during the nascent years of the credit reporting industry. Early on, data collected about consumers and sharing that information lacked regulation, compounding unfair practices. Additionally, concerns about privacy and files containing inaccurate reports on individuals grew, leading to court cases of discrimination and financial harm to individuals. Although it had been nearly 200 years in the making, Congress eventually took action to protect citizens against damning practices by credit agencies. “In 1970, the Fair Credit Reporting Act (FCRA) was passed requiring credit reporting bureaus (like RCC) to open their files to the public; expunge data on race, sexuality, and disability; and delete negative information after a specified period of time.” (Kaufman, 2018)
Critical Aspects of the FCRA
Thanks to people like Congressman William S. Moorhead, an FCRA champion and instrumental in its passage, and Earl L. Aaron, the first Director of the Federal Trade Commission’s (formerly known as the Bureau of Corporations) Division of Consumer Credit responsible for enforcing the FCRA, consumers have more protection. Since FCRA was enacted, needed amendments have been made over the years while its foundational tenets remain.
- Dispute Resolution and Accuracy: Individuals were granted rights to access their credit reports, dispute inaccuracies, and request corrections.
- Information Sharing Limitations: The FCRA limited who could access credit reports and for what purposes.
- Fair Use Requirements: Lenders and other users were required to have legitimate reasons for requesting credit reports and use the information reasonably.
- Notification and Disclosure: Consumers were given the right to receive disclosures about who accessed their reports and under what circumstances.
Credit Reporting Agency to Credit Bureaus
Credit Reporting Agencies
When lawmakers passed the FCRA requiring credit reporting companies (now more commonly known as credit bureaus) “to open their files to the public; expunge data on race, sexuality, and disability; and delete negative information after a specified period of time,” much-needed regulation was finally underway. Although the FCRA had a slight negative effect on RCC’s reputation, the company remained intact and, in 1975, changed its name to Equifax.
Creation of the Credit Bureaus
In 1996, TRW Information Systems and Services Inc., the credit reporting arm of TRW, was spun off and renamed Experian. However, the Experian credit bureau can trace its lineage back to 1826.
In 1968, the TransUnion credit bureau (with a history dating back to 1866) was formed. In 1969, the company acquired the Credit Bureau of Cook County, marking the company’s official entry into the credit reporting business.
Equifax, Experian, and TransUnion are considered the “Big Three” credit bureaus, but there are others.
- Innovis, a subsidiary of CBC Companies, was formed in 1970 and is privately owned.
- Pay Rent, Build Credit, Inc. (now known as Connect) was incorporated in 2002. The MicroBilt Corporation now owns Connect.
Credit Bureaus and FICO
Now that we know a bit of the history of credit in America and the big names in the credit reporting industry, what do they have to do with FICO?
Great question!
Remember the Mercantile Agency of New York established in 1841 by Lewis Tappan and the Retail Credit Company founded in 1899 by the Woolford brothers? Back then, businesses’ and customers’ names and character attributes were recorded in physical books or ledgers. Those books were handwritten, and real people collected the information manually. Furthermore, there was no standard.
To standardize credit evaluation, a company grown out of a working relationship born from research rose to fully computerize consumer data collection. The company may have been the grandfather of data sets and algorithms before big tech companies like Google, Meta, and Microsoft made those words household names.
Introducing FICO!
What is a FICO Score and a Credit Score?
Fair Isaac Corp
FICO, which stands for Fair Isaac Corporation (originally known as Fair, Isaac, and Company), is behind the FICO credit score. William Fair (an engineer) and Earl Judson (a math guru) founded Fair, Isaac, and Company in 1956 after meeting at the Stanford Research Institute. In 1989, Fair Isaac Corp released its first general-purpose FICO score.
This three-digit number is used by lenders, such as mortgage companies, to determine your creditworthiness. The computations and data collection done by the Fair Isaac Corporation replaced the handwritten ledgers of the prior decades. Eventually, FICO ushered in online access to consumer and commercial credit data and enabled automated decisions. Giving creditors access to data on a scale never before experienced.
The higher your FICO score, the better your creditworthiness. It plays a crucial role in your financial journey, impacting your ability to secure loans, mortgages, and credit cards. Additionally, it influences the interest rates you receive, potentially saving you or costing you money over time.
So, what factors contribute to your FICO score? It’s a complex calculation based on various data points. Elements like payment history, credit utilization (aim for around 30%), length of credit history (avoid canceling credit cards), new credit, and credit mix play a role. You can improve your score by paying bills on time, keeping credit card balances low, and maintaining a diverse credit portfolio.
Generic Credit Score
Consumers often mean “credit score” when we say FICO score; however, these two differ.
Think of the FICO score as a specific brand of credit score, similar to Kleenex, a particular brand of tissue. FICO scores are well-respected and widely used (especially by mortgage companies, auto loan financers, and banks), but other credit score models exist.
While your FICO score and other credit scores may be similar, they may differ because of the different algorithmic models and the data sources used. Generally speaking, a credit score is a broader term that can refer to any three-digit score generated by various creditworthiness scoring configurations and designs, including VantageScore, Connect, FICO, and others. Alternative credit risk designs may weigh factors more heavily or less, resulting in a score different from your FICO score. The bottom line is that depending on the credit-granting institution you’re engaged with, ask which score is used as the credit risk evaluation tool. This information empowers, letting you know precisely through which lens you’re being measured.
FICO Score Why Knowing Yours Matters?
In short, knowing your FICO score matters because it supports your financial planning and decision-making as a consumer. A simple example might be that your family is growing. And you need to move out of your one-bedroom apartment into your own home. Your FICO score will factor in the interest rate at which you get your loan. Potentially costing you thousands of dollars more due to having a low FICO score. Here are other considerations.
- Make informed financial decisions.
- Access better financial products and terms.
- Protect yourself from financial fraud. Plan for your future financial goals.
Remember that a good FICO score requires managing debt and credit keenly, like low credit card utilization, on-time, consistent bill payments, and a varied credit mix. By actively monitoring your score and taking steps to improve it, you can unlock the rewards and benefits and reach your financial goals faster.
Can Your FICO Score Impact Your Wealth?
In short, your FICO score can significantly influence your wealth-building activities. However, it is not the single factor. Nonetheless, here are ways it can influence your path toward financial freedom.
FICO: Positive Influence
- Having an excellent FICO score opens doors to better financial products. Thinking of the home mortgage example from earlier, a great score means a lower interest rate. Ultimately, this represents tremendous savings, freeing up more money to invest elsewhere.
- Not a Risky Borrower: A higher score also shows you as a less risky borrower for creditors. Giving you access to more significant loan amounts. This is handy if you become a real estate or business capital investor. Investing in real estate, the stock market and your own business takes cash and accelerates your wealth attainment strategy. Being a reasonable credit risk allows you to put more dollars to work.
- Negotiate Favorable Terms: Knowing your score strengthens your position when negotiating financial terms with lenders and other service providers. This can get you better deals on various financial products and services.
- Increased Creditworthiness: A good FICO score builds trust and confidence in financial responsibility. This can open doors to exclusive investment opportunities, partnerships, and business ventures that might otherwise be unavailable.
FICO: Negative Impact
- High-Interest Costs: A low FICO score leads to higher interest rates, draining your potential returns on investments and wealth accumulation. It can trap you in a cycle of debt, hindering your progress toward financial goals.
- Restricted Financing Options: Lenders may hesitate to offer you financing with a poor credit score. This can limit your ability to leverage debt for wealth building.
- Reduced Liquidity: Having a poor credit score may make it challenging to obtain short-term credit for emergencies or unexpected opportunities.
Beyond the Score
Now that we now the pros and cons of your FICO score, remember, while your FICO score is important, it’s only one piece of the wealth-building puzzle. Other factors like financial literacy, investment knowledge, risk management, and income level play crucial roles in achieving your goals.
FICO Score Practical Tips to Improve It
Practice these tips to optimize your FICO credit score and supercharge your wealth-building.
- Manage your debt and use it wisely.
- Maintain a consistent history of on-time payments.
- Keep your credit utilization ratio low (ideally below 30%).
- Diversify your credit mix with different types of accounts.
- Monitor your credit reports regularly for errors and correct them promptly.
- Seek help from a professional financial advisor and develop a solid strategy to build your financial legacy.
Remember, true financial wealth is a journey that requires dedication, discipline, and intelligent financial decisions. A good credit score is a single data point on the road of your legacy-building journey. In addition to managing debt and credit expertly, focus on building a foundation of financial knowledge and diversified investments to increase your chances of success.
Conclusion
Remember, your credit and FICO scores are a snapshot of your financial health. It reflects your responsible payment habits and has the power to open or close doors to economic opportunities. In conclusion, understanding your FICO credit score is essential for a successful financial journey. By maintaining a good score, you can save money and achieve your financial goals now and in the future. Don’t underestimate the impact of your FICO credit score!
Get Your Free Credit Report
Consumers gained the right to obtain their credit report annually for free under the Fair and Accurate Credit Transactions Act (FACTA), passed by the U.S. Congress and signed into law by President George W. Bush on November 22, 2003.
Before FACTA, consumers were only entitled to one free credit report every four years from each of the three major credit bureaus. The passage of FACTA significantly improved consumer access to their credit information. Enabling them to monitor their reports for inaccuracies and potential fraud more frequently. You can request your FREE credit report from AnnualCreditReport.com. The website was established by the three credit bureaus as part of FACTA.
Resources (Dig Deeper)
Buy Now Pay Later: A History of Personal Credit
Stanford Research Institute Facts
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