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Note: This article was updated on 10.12.08

Credit Scores: How You Rank Means Everything
On the date that this article was revised, the stock markets and bond markets are suffering their greatest losses in recent history. Our retirement plans are proving to be nothing of what was promised. And our economic futures, even in the global economy remain unclear. But it is important to not loss sight of one of the most important aspects of your financial well-being: your credit history and credit score that accompanies it.

I don't intend to make the work of Fair, Isaac and Company, the credit scoring company seem sinister, but the method by which they keep score is still very much a well guarded secret. Since the inception of their FICO scoring system, this California company has become the major source for lenders and insurers who have a need to determine your creditworthiness. The sell point for these institutions is the relationship between low credit scores and high risk. For mortgage companies, it will determine the rate that is available. For insurance companies, it determines whether you are worth the risk, and if so, how much of a premium you will pay. For your ability to borrow in an emergency, it is critical.

We often take borrowing from a creditor as something of a right rather than a privilege. We believe that as long as we are working, we have the right to borrow at least what we are capable of paying back to the lender. When this article was originally written, the focus was on buying a home. Now, the focus is on managing debt in case of an emergency.

So what does this mean to you as a applicant, whether you are buying a home, applying for insurance coverage or simply needing to use your credit card? More than you think. Many companies deny making these scores the sole criteria for their lending practices. But they have little else to go on.

Unlike the hometown back in days in gone by, the banking system has no idea who you are without referring to the paper trail you have left. This "paper trail", which is largely electronic in nature, allows lenders to look at your habits and your discipline and in doing so, offer you a rate or, in the case of insurance, a premium that suits what they determine to be what your riskiness is worth.

The company does have guidelines for the consumer to follow and they are mostly based on good credit sense. The score is broken down into several categories:

• PAYMENT HISTORY - What is your track record?
  Your payment history accounts for 35% of your total score. Late payments aren't necessarily considered "score-killers" according to their website, but then again, neither is paying everything off each month able to net you the perfect score. They are quick to point out that good credit histories help in your overall score. This category takes into account late payments (60 days late is better than 90 days late), bankruptcies, foreclosures, suits, wage attachments, liens and judgments, types of accounts, installment loans, and the satisfaction of any judgments against you.

  Of course the best advice here is get current and stay current. The company gives no indication of how a perfect score is achieved in this category, but definitely, good common sense with creditors will help you score higher. If you are having credit difficulties, you need to resolve them prior to applying for a loan or for less expensive insurance.

  Only about 60% of those that owe pay on time every month.

• AMOUNTS OWED - How much is too much?
  The amount you owe provides another mixed picture. The ability to get credit and pay it down will provide a higher score than paying off credit cards in full each month. Any balance owed is taken into consideration, as well as how much credit is available and whether you have used it all. Seems the best method to score higher in this category, which is worth 30% of your score is to maintain no more than three credit cards with low balances (and regular payments to those balances). Numerous credit cards will lower scores. The balance game, played by some many people, will often backfire when you are scored in this category. The balance game is simply a shift from one card to another in an attempt to get low introductory rates at another card. This leaves too many cards open for scrutiny.

  The key here is to not use more than 30% of your available balance in any given month - even if you pay it off.

• LENGTH OF CREDIT HISTORY - How established is yours?
  Credit history is all about management. If you are young, opening numerous accounts will drop your score in this category. Older folks need only keep their credit lines in order, accounts to a minimum, and your credit management within your means. This category nets a 15% share of your total score.
• NEW CREDIT - Are you taking on more debt?
  It is almost impossible to avoid the offer of credit. Some of us will ruin our credit in college before we even have a chance to establish any. A little prudence and opening credit cards are not bad things according to the FICO people. Your score is more a result of too much too soon.

  Establishing credit is good. Taking every offer that comes your way is bad. If you already have screwed yourself up in this category, only time will raise your score. The rush to bankruptcy will lengthen your time frame for good score recovery.

  

  Each time you apply for a card, a report is generated. Each of these reports can have a negative effect on your overall score. Keep in mind that checking your own credit report, which is something you should do periodically, especially in these times of identity theft, is not scored against you. But each lender and the time frames between those inquiries are scored.

• TYPES OF CREDIT USE - Is it a "healthy" mix?
  The bad part about the type of credit you use is that is often too easy to pass up a new credit card. This is something I have stopped doing. I have found myself in a department store with a sizable purchase and the clerk will offer me 10%, sometimes more, off on the purchase... if I open an account. Enough of these missteps, even if you never visit the store again, will add up to a lower score. When you do check your report, and FICO will let you do this for fee, you should close any accounts that you will never use. Sounds simple but some cards just won't close. Be persistent. But closing an account doesn't make it disappear from your credit report and that can and will alter your score.