Unless you’re very fortunate, at some point in your life you’re going to have to borrow money. Whether a mortgage for a house, a car loan, or just for your monthly shopping in the form of a credit card.
When you apply for any kind of loan, your prospective lender will look at your credit score. This information will determine whether you will receive the loan and the interest rate you will have to pay, should they agree. You can obtain your credit score for free, from organisations such as Experian.
You may wonder how your credit score is calculated. Many people think they understand the process but really don’t and acting on misconceptions can cost. So let’s look at what factors actually hurt your credit score, so you can try to avoid the pitfalls:
High Credit Card Balances. Don’t be tempted to max out your credit limit. If you have a combined limit of £10000, try not to borrow more than £3000 (30%). This is known as the Credit Utilisation Ratio. A 30% ratio is acceptable, 10% is good, but don’t go over 50%.
Late payments. If it’s on a credit card, try to pay the balance in full each month but always pay at least the minimum payment. It’s estimated about 35% of your credit score is based on your payment history. Late payments on any loan are a red flag for lenders.
Applying for too much credit. A higher credit limit can help with your utilisation ratio, but applying for too much credit, particularly if it’s on multiple cards, has a negative effect on your score. Every application results in your credit history being studied. Each one of these inquires, in itself, lowers your credit score. So resist credit offers you don’t actually need.
Closing credit card accounts. Closing accounts lowers your available credit which negatively impacts your utilisation ratio. You may also be reducing the length of your credit history which again can harm your credit score.
Having no credit card. A lot of people avoid credit cards as they don’t like the idea of borrowing money or are concerned about getting into debt. This may sound like a sensible and prudent approach. However, not having this source of credit history will harm your credit score. Two to three credit cards are believed to be an ideal number to boost your credit score. Credit diversity accounts for around 10% of your overall score.
Defaulting payments. Defaulting on a loan is going to seriously impact your credit score. A single default can cost as much as 100 points from your score. Try and avoid it at all costs!
If you feel you’re beginning to struggle with your repayments, then be open and admit it. Don’t hide away and pretend it’s not happening. If you talk to your lender they are likely to be understanding. They should be flexible, to come to a repayment arrangement with you, that works for both parties. Nobody wins if you default.
Co-signing with another person. This can put your credit score at significant risk. If the other person fails to keep up with regular payments your credit score could get battered! In law, you’re jointly liable for the debt. Therefore, as well as hurting your credit score you leave yourself open to possible repossession or legal costs if the loan is not repaid. So be extremely wary before agreeing to this kind of arrangement.
Use this knowledge to protect your credit score and if it’s currently in a poor state you now know the steps to take to get on the road to recovery.
If you have previously suffered from bad debt and are seeking a short-term loan your options may be limited. However, there still could be providers willing to assist, such as here. Just be careful and learn from any mistakes you may have made in the past. Make sure you fully understand the terms of any loan arrangement and be sure you can afford the repayments before making any commitment.
So be mindful, a healthy credit score can save you a lot of money over a lifetime. So be kind to it!