A credit score is a three-digit score that you see in your credit file. It speaks volumes about your repaying capacity. A good credit rating means that you have been loyal to your payments in the past, while a bad credit score suggests the contrary. Not to mention, you will struggle to have your loan approved at lower interest rates if your credit rating is not stellar. You will end up with high interest rates. Being sceptical about your repaying capacity, your lender would also restrict the lending amount.
The score you see on your credit file is only for you, not for lenders. Lenders collect information from your credit report to know how risky you are. They use their own formula to determine your credit score. The score they calculate is likely lower than the score you obtain from credit reference agencies.
Three credit bureaus maintain your credit report. All these credit reference agencies could reveal a different credit score because it depends on the lender to whom they report your credit payments. Still, it is unlikely that you are a responsible borrower, according to one credit reference agency and a subprime borrower from the other.
What is the impact of a poor credit rating?
Here is the effect of a poor credit score:
- A bad credit score will make it impossible for you to qualify for low score loans.
- You will not be able to borrow a large amount of money.
- Qualifying for a mortgage would be difficult without arranging a higher deposit, which is 20% of the house value.
- Car loans would cost you three times the regular interest rates.
It is always advisable that you ameliorate your credit score. This would improve your chances of qualifying for lower interest rates without formalities like arranging a guarantor.
Ways to improve your credit score
Here are the ways to fix your credit score issues:
- Do not miss payments
First off, you should bear in mind that arrears and late payments would sharply plummet your credit score. If you miss a payment, your lender will not immediately report it to credit bureaus. Usually, you will have a month to clear your outstanding amount.
If you settle your dues within a month, you can prevent your score from going down, provided you do not repeat it. However, you cannot prevent yourself from being charged late payment fees. This will increase the cost of the debt. Over time, you would find it even more challenging to settle the debt.
Payment history constitutes the most significant portion of your credit score. If you make defaults, your credit score will be ruined. Once it is in a bad credit range, it will take ages to fix it.
Late payments appear on your credit report for two years.
Defaults appear on your credit file for six years.
- Avoid maxing out your credit card
The credit card utilisation ratio suggests how much of the credit card limit you have consumed to meet your expenses. If your credit card limit is £2,000 and you have a balance of about £1,000, your credit utilisation ratio will be 50%. It is not advisable to have such a high ratio because lenders would think that you, more often than not, rely on credit. It is a sign of poor money management. An ideal ratio is 25%. It cannot go beyond 30%.
You should reduce your credit card debt. Clear your bills in fell one swoop. Make sure that you settle your account before your credit card company informs the balance to credit bureaus. If you already owe multiple credit card debts and feel that you would not be able to discharge them at once, try to consider using a 0% balance transfer card. You will be given a set repayment term to clear your obligation without paying any interest.
While using a balance transfer card, remember that you will be paying a lot higher interest if you fail to discharge the whole debt within the time limit.
- Do nothing
Sometimes, you do not have to do anything to ameliorate your credit score. Just let your credit report be. Try to settle all your outstanding accounts and then take a break from borrowing. You should stay away from credit for at least one year. This itself is a big move in the direction of your credit score improvement.
By not borrowing money for such a long time, you are implying that you can manage money on your own. However, do not assume that the impact of past defaults and queries will not affect your borrowing capacity. They will disappear from your credit report within the stipulated time period.
Lenders generally pay heed to the latest queries and defaults. When they find that you have not been in debt for several months, they will likely be able to offer exceptionally competitive interest rates. They do not bother about too old queries and payment defaults, provided you show some sign of improvement in your financial comportment.
- Utilise credit builder loans
A credit builder loan could be a great way to improve your credit score. These loans are available only for a six-month repayment term. These loans carry high interest rates. You will be required to pay down fixed monthly instalments.
By making payments on time, you would be able to reduce the impact of previous inquiries and defaults on your credit score. However, do not assume that this will completely offset the impact of past defaults.
Summing up
Missed payments and defaults are the most common reasons why your credit score drops. If you are struggling with debt payments, you should consider a bad credit debt consolidation loan. Understand your mistakes and do not repeat them. Try to create a budget, use cash to make purchases and spend money responsibly so you do not have to hinge on debts excessively.
