FICO's MOST MISUNDERSTOOD FACTOR - Credit Utilization 30% of score

I want to apologize for not getting this next segment out sooner. With my company in the thick of 2017 planning and the holiday season upon us, this subject will hit home with each and every person. It also happens to be my favorite subject to discuss in regard to how credit works. 

Credit Utilization comprises 30% of an entire FICO score. It is also the most impacting factor that the consumer has control over that can sway scores up or down significantly with the swipe of a card or paying a cc bill. It is also the top phone topic around our office with our clients and referral partners. Utilization is heavily misunderstood and the definition of utilization is your credit card balance to limit ratios. 

Remember that the purpose of a credit score is to gauge the likelihood that you will repay the money you borrow. Certain factors make us all more likely to default on credit obligations. One of those factors is high credit card and loan balances. Higher balances are more difficult to afford and could indicate that you're overextended. Your credit score adjusts to high utilization to show prospective lenders that there's an increased risk of you falling behind on payments. Going back my payment history blog, high utilization and the recurrence of making minimum payments is an immediate high risk red flag to FICO and your scores will suffer because of it. It is a tell-tale sign that a consumer is using credit to supplement income. 

The above paragraph is a perfect segue into the newest buzz in the credit world TRENDED CREDIT DATA. This is the start to what I think will be (pardon the pun) "a trend" in how creditors evaluate borrowers in the future on a deeper level. Right now it is only affecting a niche subset of borrowers applying for Fannie Mae home loans. In mid-2016, Fannie Mae will require lenders to use trended credit data when underwriting single-family borrowers through Desktop Underwriter® (provides lenders a comprehensive credit risk assessment that determines whether a loan meets Fannie Mae's eligibility requirements). This data will be provided by Equifax and TransUnion, and allows a smarter, more thorough analysis of the borrower’s credit history. Currently, credit reports used in mortgage lending only indicate the outstanding balance and if a borrower has been on time or delinquent on existing credit accounts such as credit cards, mortgages or student loans. With trended credit data, lenders will have access to the monthly payment amounts that a consumer has made on these accounts over time. Among other benefits, this will allow lenders to determine if the borrower tends to pay off revolving credit lines such as credit cards each month, or if the borrower tends to carry a balance from month-to-month while making minimum or other payments. 

What all the above rhetoric means, is creditors are coming up with new ways to to evaluate a borrower with more analytics to hedge their risk. It all comes down to if you have a history of racking up credit cards and making minimum payments month after month, chances are you will be even more heavily penalized in the future when you are applying for financing. We haven't even touched on the interest black hole that will also suck you in and frequently becomes a vicious cycle that is hard to climb out of. 

With all that out of the way, here are simple tips to ensure you maximize this category of your credit.

Don't get in the habit of using credit cards to bail yourself out. It is better to take the time to really dig into your finances, and live well below your means, adhere to a budget, and prepare for future financial hiccups with an emergency savings account so they don't devastate your family and credit when they pop up (and they will). 

If you do need to use your cards outside of the above advice, make sure that as you pay them down each month you pay as much as possible and at the least pay double the minimum payments so you aren't adversely impacting credit. 

Pay your bills at least 10 days before the due date so you can ensure that the payment is received and if not you have time to fix the issue before it is due.

If what you purchase is non-existent (dinners out, bar tabs, etc...) by the time you get the bill and you don't have the cash to pay for it, you probably don't need it. These types of purchases creep up on you and before you know it the $75 dollar dinner has cost you twice that with the interest accrued if you aren't paying cards in full each month. 

FICO looks at utilization as a combined total. Add up all your balances and limits and divide to get your total utilization. A good rule of thumb is keeping the total at least under 30% but ideally under 10% if not 0. 

The creditors only update balances to the bureaus one time per month. It can take up to 40 days for a the new balance to report. I say this because if you are planning on applying for credit, prepare 45-60 days prior by paying cards down as much as possible. This will ensure that when you apply your scores will be at the highest point possible so you maximize your approval and interest. This is especially important in a home purchase for obvious reasons. 

When you master the above, ask me about advanced ways to use cards to your advantage (leverage, 0 interest, rewards, etc...).

In closing, as we enter the holiday season, remember your family, friends, and kids will still love you, if you don't buy them the latest game system, diamond earrings, iphones, etc... unless by the Jan 2017 credit card bill you can pay it off in full. If they don't love you anymore then I can probably refer you to other professionals that deal with these situations. ;  )

Have a very wonderful Thanksgiving and think of all people in this country that aren't as blessed as you are and help them out if you can. A smile or to be acknowledged is sometimes all someone needs. 

Brent