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Whether it's for a car loan, a new credit card, or a mortgage, sooner or later you're going to apply for credit -- and that's why you need to take charge of your credit rating now. Thanks to the new Fair and Accurate Credit Transactions (FACT) Act, you are entitled to one free credit report a year from each of the three major credit bureaus (which you must obtain from a joint source the agencies have set up). But it's up to you to monitor your rating -- and your behavior -- to make sure your score is up to par. That minimal effort will pay off in significantly lower interest rates, decreased damage from identity theft and, since nowadays potential employers may check applicants' credit ratings, maybe even better job opportunities.
Your credit report is simply a listing of how much credit you currently have available, how much debt you have, and how well you've met your payment obligations in the past, but it's the key to your standing with potential lenders. Managing your credit involves scrutinizing your reports regularly for errors, reviewing them for signs of outside tampering, and working to improve areas where your borrowing record is less than stellar. "The most important thing you can do to boost your credit rating is to learn your score," says Michael Bridges, director of marketing and operations for MyFICO.com, a Minneapolis-based credit-scoring company. "If it's great, maintain it. If it's bad, fix it. It will mean more money in your pocket."How to Get Free Credit Reports
Since the FACT Act went into effect, in 2005, the source for free credit reports is www.AnnualCreditReport.com (877-322-8228). This is a centralized service created jointly by the three leading credit bureaus: Equifax (800-685-1111; www.equifax.com), Trans-Union (800-916-8800; www.transunion.com) and Experian (888-397-3742; www.experian.com). You can order reports from the individual credit agencies, too, but then you'll have to pay for the information. Prices vary but generally run around $10 per report. Two exceptions: If you've been turned down for credit in the past 30 days, or if you believe that you have been a victim of fraud, you are entitled to free reports from each of the bureaus.
It's important to keep an eye on all three reports since they may not contain identical information -- especially if inaccuracies have crept in -- and you don't know which company a potential lender will contact to get your record. But before ordering your reports, consider your strategy. You can order all three at once or you can spread them out throughout the year, for example, requesting one from a different company every four months. Distributing your requests gives you the best sense of your credit standing on an ongoing basis, allows you to react quickly to signs of identity theft and lets you see how your actions have affected your credit. But ordering all three of your credit reports at once gives you a good sense of your credit standing at a given moment in time and is especially helpful if you're on the verge of applying for a significant loan and need to assess your chances.
Your credit score is just as important as your credit report. The score most commonly used by lenders is the FICO score (named for Fair, Isaac, the company that created it). The number indicates to lenders how likely you are to make your payments on time. The figure is computer-generated from your credit report, though it does not appear on your credit record. You may have a different FICO score for each of your credit reports (though they're unlikely to be too different unless one of your reports has a mistake or a significantly different entry) and lenders may use any of those numbers or take the middle score of the three to evaluate whether you qualify for a loan or other credit, how much they're willing to lend you, and what rate of interest they'll charge.
Your FICO score can range from 300 to 850; the higher your number, the better. For example, a borrower with a score of 760 might get a mortgage interest rate of 5.85 percent, while a borrower with a score of 620 might get a rate of 7.44 percent. The difference in monthly payments at the two rates adds up to $314 -- or close to $3,768 a year (on a 30-year fixed-rate mortgage of $216,000). The median FICO score is 723 -- you want yours to be higher.
You will probably have to pay to get your FICO score. You can obtain all three of your FICO scores (and credit reports for $44.85) at www.myfico.com. You can also order your credit score from each of the three credit bureaus for between $5 and $8 apiece. If you've recently applied for credit, though, your lender will undoubtedly have your score and may, if you ask, disclose it to you. Some lenders, like certain mortgage issuers, are legally required to disclose it.How to Fix Errors on Your Credit Report
Your credit reports from the three bureaus may have slightly different formats, but all contain similar facts. There's your basic identifying information: name, address, Social Security number. Another section includes "trade lines," a listing of your credit accounts -- be they credit cards, car loans, or mortgages -- along with the credit limit, balance, and payment history of each. The reports also show "public records and collection," which include any actions taken against you in court and any overdue debts taken over by collection agencies. Read all of these sections carefully for accuracy.
If you find any errors, you have the right to dispute them, free of charge, by phone, mail or e-mail, with the credit bureaus. If the mistake occurs on all three reports, you must contact all three agencies.
When you point out the problem, the credit-reporting agency will open an investigation and contact the credit card company or other lender that provided the statements you dispute. The source must then check its records to verify the information and respond to the credit agency within 30 days about whether the contested item is correct or not.
If you dispute an item and the investigation finds against your claim, there's no appeal, so the information will remain, but you can write out a consumer statement and send it to each of the credit bureaus, which will add it to your credit reports. This will ensure that your side of the story is available to potential lenders. If, on the other hand, the lender agrees with your correction, the Federal Trade Commission (FTC) requires the lender to amend the error at all the bureaus to which it reports. However, you should check all of your reports to make sure all the fixes have been made correctly.
If a credit card you never applied for appears on your report, you may be the victim of identity theft. Contact the fraud department of one of the credit bureaus and request a fraud alert on your credit reports. (You have to call only one bureau -- it will notify the other two.) This tells lenders to contact you before issuing new credit or making changes, such as switching mailing addresses, to your current accounts.
You really can boost your FICO score and clean up your credit report, though it takes time. Bankruptcies stay on your credit records for 10 years, and judgments, liens, arrest records, and similar items for seven years, no matter what. But you can significantly improve your credit even before those black marks vanish: In only three or four years, even people who've filed for bankruptcy can raise their score to levels that will qualify them for near-premium interest rates from lenders.
The most important move you can make to boost your FICO score and clean up your credit report is to pay your bills on time. "Prompt payment of your bills is crucial to creating and maintaining a good credit score," said William Haynes, an attorney with the FTC. Although you can't make missed payments go away, you can resolve to stay current. And while the longer you show a good payment history the better your score will be, keep in mind that your recent history carries more weight than your more distant past.
As you work on your score, be strategic about how you plan your payments. In general, it's more important to make your current minimum payment on time than it is to send a large check that's already overdue. But paying down your debt balances always helps your score, so if you're fortunate enough to come across a windfall, use it to pay your highest-interest debt first and work your way down. Prepaying an installment loan such as a car loan won't necessarily save you in interest, so concentrate your efforts on your expensive credit cards. High outstanding debt can lower your score, since scores take into account how much of the credit available to you you've used -- being "maxed out" is a red flag. It can be worth it to expand your credit limit on existing cards -- as long as you don't use that extra money. Ideally, you should be aiming not to use any more than 30 percent of all the credit available to you.
Avoid applying for more credit. It's tempting to move your balances to new credit cards to take advantage of lower rates, but beware. This can actually lower your score because you'll have more open credit card accounts. It's better to have fewer cards in good standing, and the older, the better.
If you do need to look for new credit, focus your search in a narrow time period. When you apply for credit, lenders will check your credit history. These inquiries appear on your report, and too many inquiries can be a negative for your credit score, which looks at the length of time in which inquiries are made to determine whether you've just made one search -- or many.
Originally published in Ladies' Home Journal magazine, April 2006.