A credit score is a number that reflects credit risk level, typically with a higher number indicating lower risk. It is generated through statistical models using elements from a credit report; however, the score is not physically stored as part of the credit history on the credit file. Rather, it is typically generated at the time a lender requests a credit report, and is then included with the report viewed by the creditors. A credit score is a fluid number, and it changes as the elements in the credit report change. For example, payment updates or a new account could cause the score to fluctuate. There are many different credit scores used in the financial service industry. A score may be different from lender to lender (or from car loan to mortgage loan); depending on the type of credit scoring model that was used.
Before credit scores, lenders physically looked over each applicant's credit report to determine whether to grant credit. A lender might deny credit based on a subjective judgment that a consumer already held too much debt, or had too many recent late payments. Not only was this time-consuming, but human judgment was prone to mistakes and bias. Lenders used personal opinion to make a decision about an applicant that may have had little bearing on the applicant's ability to repay debt. Credit scores help lenders assess risk more fairly because they are consistent and objective. Consumers also benefit from this method. No matter who you are as a person, your credit score only reflects your likelihood to repay debt responsibly, based on your credit report.
Banks, credit card companies, auto dealers, retail stores, and most other lenders that issue credit or loans use credit scores to quickly summarize a consumer's credit and provide a fast and fair risk decision, saving the need to manually review an applicant's credit report. Although many additional factors are used in determining risk, such as an applicant's income vs. the size of the loan, a credit score is a leading indicator of one's basic creditworthiness.
The information that impacts a credit score varies depending on the score being used. Generally, credit scores are affected by elements in the credit report, such as:
- Number and severity of late payments
- Type, number, and age of accounts
- Total debt
- Recent inquiries
Credit scores cannot use demographics prohibited under the Equal Credit Opportunity Act, such as race, color, religion, national origin, gender, age, marital status, receipt of public assistance, or exercise of rights under the Consumer Credit Protection Act. Individual lenders may also consider other factors, such as income, occupation, and type of residence.
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