Why is having a good credit rating so important?

Why is having a good credit rating so important?

Throughout the last few decades, consumers have become increasingly reliant on credit. Using credit means borrowing money from a lender, with the promise to pay it back within a specified period of time. It is a great honor to have lenders extend you credit in this way.

You should take pleasure in having a good credit rating. Also, be cautious when using credit. Credit is fragile; one misstep can result in serious consequences; you can damage your credit rating without even realizing it. As a result, it is critical that you are familiar with your credit report.

Your credit score is extremely important in your daily life.

There are few things in life that will follow you as closely as your credit report. It is your credit report and rating that serve as a financial snapshot of how you are perceived by the business world. Your financial history can have an impact on your ability to obtain a mortgage, rent an apartment, make large-ticket purchases, take out loans, and, in some industries, even be hired because of your credit history.

Whenever you apply for a credit card, or even a cable connection, lenders will run a credit check on you. When it comes to borrowing money, your credit rating helps determine the likelihood that you will be able to and will repay the money that you have borrowed; it also indicates the level of risk that you pose to the lender.

As a result of increased credit risk, you will have to pay a risk premium in addition to the interest rate at which you borrow money. Even if you have a poor credit rating, lenders may not reject you outright; instead, they may lend you money at a higher interest rate than they would charge someone who has a better credit score.

What Factors Influence Your Credit Score?

A credit bureau receives information about you when you borrow money, and this information is used to create a credit report, which details how well you’ve handled your debts in the past. This information is included in your credit reports from the three major credit bureaus in the United States: Equifax, Experian, and TransUnion.

READ ALSO:   Highest credit score: Is it possible to get it?

The credit bureaus also compile your credit history into a single number known as a credit rating or credit score, which you can view on your credit report. Your credit rating is based on five major factors, according to the credit bureaus:

  • Payment performance on credit cards
  • a measure of the utilization of credit
  • Credit history for a period of time
  • Credit mix; the different types of credit that are available
  • The frequency with which new credit applications are submitted

Despite the fact that all of these factors are taken into consideration when calculating credit scores, they are not given equal weighting. Following is a breakdown of the aforementioned factors according to their weighting in the table below.

When it comes to your credit rating, you’ll notice that having a history of paying off your debts in a timely manner is the most important factor to consider, accounting for 35% of the total weighting.

It is also beneficial to maintain low levels of indebtedness, avoid carrying large balances on your credit cards or other lines of credit (LOC), establish and maintain a long credit history, and avoid repeatedly applying for new credit to improve your credit score. The following are the top five most important factors considered when determining credit ratings.

Credit rating bureaus consider five important factors when determining creditworthiness.

Determining Factors Weighting
1) Credit payment performance 35%
2) Credit utilization ratio 30%
3) Length of credit history 15%
4) Credit mix 10%
5) Frequency of new credit applications 10%

The FICO Score is a financial rating system.

The Fair Isaac Corporation, which developed the statistical software that is used to calculate credit scores, is represented by the abbreviation FICO. To assess credit risk and determine whether or not to extend credit, lenders look at borrowers’ FICO scores as well as other information contained in their credit reports.

The FICO score ranges from 350 (extremely high risk) to 850 (low risk) (extremely low risk).

READ ALSO:   FICO and FAKO: Limitations of free credit scoring

Possessing a high credit score increases your chances of being approved for a loan and can help you negotiate loan terms such as the interest rate. Being turned down by many lenders because of a low FICO score can be a deal breaker.

According to the graph below, the average FICO score in the United States reached a record low of 686 in 2009. In 2018, the average FICO score in the United States reached a new high of 704, demonstrating a consistent upward trend in the country’s credit quality.

The VantageScore system

The VantageScore system, which was developed in 2006, has a different weighting than the FICO system. In this method, lenders take into account the average of a consumer’s available credit, recent credit, payment history, credit utilization, depth of credit, and credit balances; the payment history and credit utilization are given the most weight, followed by the depth of credit and the credit balances.

In the VantageScore system, the range is between 501 and 990 points. Those who have a credit score of less than 630 are considered to have bad credit. A score between 630 and 690 is considered fair, while a score between 690 and 720 is considered excellent. A score of 720 or higher is considered excellent.

Despite the fact that an increasing number of creditors are utilizing this system, it is not nearly as widely used as the FICO score.

Why it’s important to check your credit report on a regular basis

It is important to ensure that your credit report is free of errors and negative surprises because your credit rating can have a significant impact on many of life’s major decisions. If you do discover errors, you can have them corrected through the credit reporting agencies.

If your credit report contains information that does not reflect well on you, you should be aware of the problems so that you can explain them to potential lenders rather than being caught off guard.

Other parties have access to your credit report (generally with your permission), and you should, of course, have access to your credit report as well. You have the right to review the information on your credit report once a year, and doing so will have no effect on your credit score, according to the law.

READ ALSO:   Will a lost or stolen credit card damage your credit score?

Each of the three major credit bureaus in the United States—Equifax, Experian, and TransUnion—provides consumers with one free credit report per year through the website AnnualCreditReport.com.

Techniques for Increasing or Maintaining Your Credit Score

If your credit rating is good, you will want to improve it or keep it at its current level. It is possible to improve your credit score, even if you currently have poor credit; you do not have to be stuck with a particular credit score for the rest of your life. Credit bureaus allow information to be removed from your credit report if it is done in a timely manner. Negative information typically disappears from your credit report after seven years, but bankruptcies remain on your report for ten years. You can improve or maintain your credit score by following the steps listed below:

  • Loan payments should be made on time and in the correct amount.
  • Try not to overextend your credit card. Even though you may be tempted to use uninvited credit cards that arrive in the mail, doing so will not improve your credit score.
  • Never put off paying past-due bills. If you are having difficulty repaying your debt, contact your creditor to make arrangements for repayment of your debt. If you inform them that you are experiencing difficulties, they may be more accommodating.
  • Keep track of the different types of credit you have. Credit from lending institutions can have a negative impact on your credit score.
  • Maintain as low a level of outstanding debt as possible. Continually extending your credit near your credit limit is not a good look in the eyes of the public.
  • Reduce the number of credit applications you submit. When your credit report is “hit,” that is, when it is viewed, an excessive number of credit requests may be perceived as a negative factor.
Share your love