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Posted: 1:24 p.m. Thursday, July 28, 2011

Credit scores explained: How they work

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Now that credit scores are widely available, you would think consumers would be more enlightened about their finances. But the proliferation of easily available credit scores has actually just caused a lot of confusion.

Your real credit score remain your FICO score, but there are about a zillion other different ones out there from a variety of marketing outfits.

A particularly common one that people mistake for the FICO score is the VantageScore. Pushed heavily by the three main credit bureaus, the VantageScore is an alternative to the FICO score that has no applicable use in the marketplace right now. Then there are also free credit scores available from CreditKarma.com and Quizzle.com, among others, that are based on yet other scoring models.

No matter which score you have, the key is what scale is your score on? By knowing where the scale tops out, you can get a sense of how your score relates.

Let's say you pay for your real FICO score through myFICO.com and it comes back as 737 (on a scale of 850), for argument's sake. Then you go to apply for a loan and they say, "No, it’s not 737. We're showing a score of 682." How can this be?

First, each report is based on info that generates a different score. Second, different industry groups get their own customized reports and scores. You could have one score when you apply for a car note, another when you open a new credit card and yet a third when you go to buy a home.

So what seems like clarity when you get that FICO score is really just a source of irritation and confusion. Here what you really need to know: A credit score is a snapshot of your situation in time based on whatever database from which it's drawn.

Try focusing instead on your overall credit health. Is it good, great or horrible on the spectrum? Know that time heals most all wounds on your credit. But if you pull your annual credit report at AnnualCreditReport.com and see a little bill there from some doctor that you forgot about, well, the best course of action is to deal with it and pay it immediately.

To put it in medical terms, your credit score is basically taking your temperature and your credit report is like the doctor's diagnosis and prescription all in one. The info on the credit report about late pays and defaults gives you a way to fix what you need to so your credit can improve.

I know it's an imperfect system. But it wasn't designed with us in mind. It was designed so that info about us as consumers could be packaged and sold. That's why this whole thing is so messy.

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