How Important Is Credit Risk Ratio?
Every one knows how FICO or the Fair Isaac Corporation
scoring systems work. There are however many other types of systems
employed by lending companies when computing one's credit worthiness.
But whatever credit risk system your lender uses, it is important
to always keep a close eye on your credit risk ratio.
Credit risk ratio is the percentage or the likelihood
that lenders will lose because of a borrower's inability to pay
on time. Or, in other words, it is the odds that banks, lending
institutions, or credit card companies will say "NO" to
your credit applications.
A credit risk ratio is not a factor; rather, it
is a result of your credit performance. Just like what was mentioned
earlier, the FICO has its own way of scoring one's credit worthiness
or the ability to pay for his credit obligations. The mathematical
formula is secret least likely disclosed, though FICO reveals the
factors that may spell difference between being a credit worthy
and credit risky borrower.
The first factor is the promptness of your payment.
That makes up thirty five percent of your total FICO score. The
earlier you pay the bills, the better. Also, you need to know that
FICO puts more focus on your recent bills, although your past late
payments will also reflect on your present report. More importantly,
a credit card account that has been handed over to collecting agencies
will definitely hurt your credit score. If you're not doing well
in this 35-percent factor, then you are basically raising your credit
risk ratio.
The other factor is the debt to credit ratio. This
accounts for thirty percent of your total FICO score. This rating
is obtained by dividing your credit utilization over the total credit
limits. For instance, if a person has total credit limits of $80,000,
and he used $60,000, then his debt to credit ratio is 75%. An ideal
percentage should fall between fifty to sixty percent. Making it
above sixty increases your chances of becoming a credit risky borrower.
The third factor is the length of credit history.
This is fifteen percent of your credit score. Credit scorers like
FICO are not mindful of how long you have owed money from someone,
but they are more interested in your relationship with your lender.
If you have used your credit and stayed with the same credit card
company for that long, that makes you more as a credit worthy borrower.
Ten percent of the remaining twenty percent is
based on the combination of credit types you use. Basically, there
is the consumer finance, revolving, an example is credit card, and
installment. If you vary your credit types, you have a big chance
of reversing your credit risk ratio.
The other ten percent comes from your resourcefulness.
FICO awards a full ten percent to borrowers who are confident to
look around for the best interest rates.
Interestingly though, your FICO score will not
guarantee you of having a complete credit worthy status. Take for
example, a person's current employment or income status. Even if
he has gained an attractive FICO score, but presently has no means
of earning income, he will still be labeled a credit risk borrower.
That person's credit applications will most probably still be denied.
High credit risk ratio is not something you would want to earn,
so be extra watchful when you use your credit cards.
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