Anna Fleet

01/12/2008

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What Does My Credit Report Say About Me to a Potential Lender?

Knowing what your Credit Report Represents.

A common misconception that is often perpetuated by creditors, some disreputable counselors, “self-help” gurus and even some religious groups, is that your financial success is a reflection of you as a person, and that you are somehow less worthy as an individual human being if you find yourself in a difficult situation with regard to paying debts. On the contrary, being behind on payments does not mean you have sinned. It does not mean you are a bad person, are unintelligent, or less valuable than other people. It just means that for the time being, the amount of money you have coming in doesn’t match up well with the amount of money you have going out.

However, your credit report, and the corresponding FICO score, is a reflection not necessarily of you as a person, but is a reflection of your finances, how you have handled them, and indirectly, your ability to earn an acceptable amount of money that is adequate to pay your bills.

It tells how many times you have applied for credit, and may therefore reflect a certain level of desperation on your part. As such, creditors rely on these two things to decide whether or not to lend you money. That is, in a nutshell, the only legitimate function of the credit rating—to determine how likely you are to pay your bills on time.

Regrettably, some organizations use credit scores for much more than a determination of creditworthiness. It is common for an employer to run a credit check on a potential hire. When you are hiring into a company, you’re not borrowing money from them, you’re exchanging your labor for compensation, so your creditworthiness should not enter into the equation, but nonetheless, it does. Employers are using your credit report to attempt to get a picture of what you, as a person, are like, operating under the assumption that an individual with poor credit will also be a poor employee. It is not true, but it is perceived as being true by many employers.

Similarly, insurance companies in many states now also use credit reports to determine your insurance rates. Again, you are not borrowing money from the insurer, only purchasing an insurance policy (usually with prepaid premiums), so the issuance of credit does not enter into the picture. But, the insurers also see your creditworthiness as a reflection on how likely you are to file a claim against them. Is a person with bad credit more likely to have a car accident than someone with good credit? Insurers think so, although it has been hotly contested. In fact, credit reports are frequently used for non-credit related issues. Even one Texas utility company had proposed setting utility rates for customers based on their individual credit scores, until the public outcry was so great that they had to abandon the idea.

A credit report simply tells a tale of your financial history over time. The FICO score tells even less of a tale, although it is relied upon as the primarily indicator by many lenders. The FICO score, a number between 300 and 850, condenses the entire credit report into a single number, and serves as a snapshot of your credit situation that changes over time, depending on the individual items in your credit report.

As such, if you are applying for a mortgage or other loan, you may wish to encourage the loan officer to review your credit report in its entirety, as opposed to merely relying on the FICO score, since the FICO score may be unrealistically low based on financial events that have long since passed. Your credit report is more chronological in nature, and will show, for example, that although you may have had some missed payments a few years back, your payments have been timely on a more recent basis.

Your credit report takes on more importance than perhaps it should in today’s world, but it’s there, and creditors, insurers, employers and others read a lot into it. To make the most of it, keep track of what’s there. Obtain a free copy of it every year to review it for inaccuracies or out-of-date items, do your best to manage your payments effectively and on a timely basis, and don’t over-extend yourself.

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