OPENING THE BLACK BOX OF FICO

There are many misconceptions about the credit score developed by the Fair Isaac Corporation ("FICO"). While many independent banks feel the score is more of a "retail thing," FICO plays a vital role in determining the underlying quality of the guarantor(s) in CRE lending as well. In fact, research shows that FICO is a better predictor of guarantor repayment than either net worth or liquidity. Because of this, it is important to understand how FICO scores are constructed. In general, a FICO score breaks down as follows: 35% of the weight is from payment history, 30% is from amounts owed, 15% is from length of credit history and 10% each come from types of credit in use and new credit lines extended. While these percentages are general guidelines, the importance of any single factor depends on the overall information in the credit report, so different credit histories can change the importance of a given factor in determining the score. Payment History - Since payment history is such a big component of the score, it is important to understand how it is used. Information is collected on credit cards, retail accounts, installment loans, finance company accounts and mortgage loans. That data is then augmented with information on bankruptcies, foreclosures, lawsuits, wage attachments, liens and judgments. Finally, this portion of the score then incorporates late or missed payments and considers how late they were, how much was owed at the time, how recently they occurred and how many there were. A 60-day late payment made a month ago will affect a score more than a 90-day late payment from 5 years ago. In short, delinquent payments and collections have a major negative impact on the FICO score. Amounts Owed – For this portion of the calculation, the score takes into account the total balance owed in the last month, amount owed on specific types of accounts, the number of small balance accounts with strong payment histories, total debt outstanding as a percentage of the original loan amounts, how much of the total line available has been used up. History – This piece of the score takes into account the age of the oldest account, the age of the newest and the average of all accounts. New Credit – This component takes into account the number of new accounts opened; how long it has been since a new account was opened; the number of requests for credit made in the past 12 months and the length of time credit inquiries were last made by lenders. FICO Facts and Fallacies - It is TRUE that the score only looks at information in a person's credit report; that late payments lower it; re-establishing a good track record raises the score; keeping outstanding balances low increases the score; and opening new accounts negatively impacts the score. It is FALSE that the score includes age, salary, occupation, title, employer, date of employment, geography, specific interest rates charged, any information not found in the credit report, any information that has not been proven to be predictive of future credit performance. Finally, we close by ranking FICO scores (which can range between 300 and 850). A score over 750 is considered 'excellent', 720 to 750 is 'very good', 660 to 720 is 'acceptable', 620 to 660 is 'uncertain' and anything less than 620 is considered 'risky'. While no single tool will do everything, as one can see, the FICO score can serve as a great early warning system.