If I improve my credit rating, I get approval with the best interest rates for housing loans, car loans and study loans. Here is how credit ratings are computed and how they work for your advantage. Read this article if you want approval and the best rates for the most significant life-changing loans in your life. Everyone has heard the terms “debit” and “credit” before and while the latter may seem to have a negative undertone we have come to an age where the financial stability of an individual is based on a Credit Rating. For example, Even if I have all the money in the world, I should be able to show credit worthiness by using my credit options and improve my credit rating by showing that I pay them when they fall due. While it is important for a person to have the means to pay their obligations, it is equally important to show that he is in the habit of paying them. It’s about establishing a character or an image of credit worthiness. On the part of the lending company, it all boils down to three questions: Should I extend credit to this applicant? What does his credit history show? How did he pay his previous debts? Now, you may think that that loans and credits only concern those who are lacking in funds but, you will see that this is everyone’s concern and may well be even more important for those who are moneyed.
Why improve my Credit Score is so Important
Everyone stands to benefit from the financial flexibility which a credit line can provide. It allows people to invest on assets that they cannot afford. Take the example of the family’s bread winner who can generate two sources of income by having the mobility to jump from one job to another with the convenience of an auto loan. Take the example of a family who will eventually save on rent when they finish the mortgages on their newly acquired property. Through student loans, a young rank and file employee can improve his chances for attaining supervisory and managerial status or a blue collar worker can improve on his employment options.
For small bakery businesses, a credit line can be a means to purchase a bigger oven that can satisfy the increasing demand. For a mega business venture, it could be used for the construction of a gigantic mall that could satisfy the needs of a growing community. Now, there are basically two important reasons why you everyone should improve their credit ratings. Your credit rating will determine the loans that you will qualify for and the interest rates that will be imposed on you. The credit score or credit rating is nothing but a three-digit number that helps lenders predict how likely you are going to repay a loan and make those payments on time.
The credit score was formulated by Fair Isaac and Company who, during the initial stages of its application, decided that it would create more confusion to explain how it worked to the public and kept the formula and its components exclusive to lenders. But, due to pressure from the U.S. Congress and private industry and consumer groups that started in 2001, everyone can now view their credit rating for a fee from credit monitoring and reporting agencies. The credit rating is a three-digit number that ranges from 300 points to 850 points and the breakdown are as follows:
- Thirty-five percent (35%) of the score is acquired from your payment history. This will show a lender if you are paying your loans promptly, how many times where you late in your payments, how many of your loans had to be sent out for collection and if you filed for any cases of bankruptcies to be saved from collection and litigation. The most recent of these incidents will work worse for your overall score. This is obviously very important for lenders because, as a business entity, they want only to extend loans to those you are most likely to pay them.
- Thirty percent (30%) is based on your outstanding debt ~ All credit lines have limits. The agency checks on all of your available credit lines and checks on how they are stretched to the limit. The more credit lines you have which are fully extended to the limit, the lower your score will be. This tells if a person is living beyond his means. A person who keeps on getting credit lines and exhausting its limits is bound to reach a point where all his income won’t be able to pay for the monthly minimum fees for the lines and will eventually file for bankruptcy.
- Fifteen percent (15%) of the credit score is based on the length of time you’ve had credit. The longer you have been using a credit line the better for your overall rating. This factor is very important because it describes your habit. And as this stretches for a longer period of time, it defines your character as a borrower. Long years of statistics will give lenders a more accurate picture of how you are as a borrower and more importantly as a payer.
- Ten percent (10%) is affected by new credit lines that you have opened. If you have recently opened a credit account, it will have a negative impact on your credit score. A credit line is based on your paying capacity. It is supposed to be a representation of the maximum amount of debt that you can pay with your current income. If you have been recently approved by another lender for a credit line and you are applying for another one then, there is much doubt or danger that you might exhaust you line on both accounts and end up with a debt that is double than what you can actually pay.
- The last ten percent (10%) is based on the types of credit accounts that you have. This speaks of your financial management abilities. It would be very good to have several types of loans. You can have both revolving credit loans and installment loans. Being up to date with several loans with several due dates will show how mindful you are on your obligations. It speaks of your financial discipline, experience and organizational skills to mix and meet your financial obligations.
Lack of funds, negligence and absolute refusal to pay are not the only factors that will cause overdue payments. A person can simply forget about an installment payment or get confused with the dates. So, a person who can show that he’s had a lot of experience with various types of loans is likely to be less of a risk in terms of default.
Improve My Credit Score
It is wrong to conclude that the best way to improve your credit is to stop using your credit cards. If you refrain from using your credit cards after their approval, you are not providing good info about your credit worthiness. You are providing zero-basis which will discourage lending companies from approving any major loan application even if you can show proof of paying capability. Improving your credit information simply means using your credit card for purchases that you manage to completely pay off when they fall due or, allocate the purchases to installment credit if they need be and pay the installments as they fall due. Credit card companies and commercial establishment will lure you into purchasing a lot of luxury items on credit but remember that credit cards should be reserved for emergency situations and items purchased for investment that will bring forth the opportunity for more earnings.
Try to maintain a good credit score for those more important investments in your life like a car, house or study loans that will redound to significant improvements on your life rather than risking it all for a new sound system. The worst situation that you should try to avoid is when you are already using your credit for the essential basics of your daily life, particularly when you are already using your credit card for gas and groceries out of necessity and not by mere choice.
How to Eliminate Debt
If this information about getting a good rating has reached you at a stage where you have fully exhausted all your credit cards and would want to remedy the situation to get a good credit score for a major loan, you have to start over by getting your balances to zero. You have to eliminate your debts and here are four ways you can do it.
- Fix one credit card at a time ~ Pay the minimum amount due on all other cards and focus on putting all your money on one credit card to get it back to zero balance. When this is done, you can work on another credit card and just follow the same procedure for the rest until all cards have a clean slate.
- Ask for lower rates ~ As formal as how credit cards seem to be, as if dealing with a fully mechanized system, you are actually dealing with a person whom you can talk to and ask for lower credit interest rates. With lower interest rates, you will be able to pay a larger portion of the entire balance when you make the same payments that used to only cover the monthly minimums. The lower the interest rates go, the faster you able to chop that giant balance down to more manageable figures month, after month, after month.
- Transfer your balance ~ Another good strategy is by transferring all balances to the credit line which has the lowest interest rate. The logic follows the same principle or could be the next wise step after you have done option number 2. But, this will only work if the lowest charging interest card’s line is not fully exhausted and can accommodate more. It would be a perfect scenario when the lowest charging credit card has just been approved and has a clear balance. This will be a rare stroke of chance and you should avail of this advantage.
- Make two minimum payments a month ~ Again, to avoid being stuck in monthly cycles of interest-only payments, try paying for the minimum payment twice a month. The first payment that you have made would have paid for the interest charges and what most probably will be just a small slice on the total balance but, the next minimum payment you will make after two weeks will be totally be chopped off from your balance thereby reducing it considerably. You will notice that as you apply this principle, your monthly minimum payments will be significantly reduced and this will eventually give you the capability to pay minimum payments on a weekly basis which will take your total balance to zero faster.
It is hard to eliminate all of your debts because it is hard to pay for current needs and pay for your past purchases. You may need to put off your yearly family vacation and other luxuries but that’s the way it is. It is hard but it will be a good lesson learned to be more cautious as to what items or purchases to buy on credit.
Ways to Build my Credit
What do these scores mean?
With a score ranging between 300 to 580 points, there is a slim chance that you’ll get an approval. Your loan application has a 100% chance to be denied. For scores anywhere between 581 and 650, you’ll have a chance for approval but only for the highest and most costly rates. With a credit rating in the range of 651 to 710, you’ll qualify for credit at moderate interest rates. If your credit score is from 711 to 750, you’ll qualify for credit at competitive rates. With a credit rating of 751 or higher, you’ll get the lowest rates in the market. Now that we have identified we have identified the components that make up the credit the rating and have presented their net effect on the faith of your succeeding loan applications, it will be easy to work on improving your credit worthiness.
Here are the immediate steps that you can do to work in building your credit.
- Apply for credit lines even if you don’t foresee a need for it ~ If you are planning to apply for a major loan say a housing loan in five years’ time, you better start using smaller types of commercial banking lines like credit cards so that lending companies will have a record to inspect. Even if you have a stable high paying job, a lending company has to see your credit and paying habits before they can have the confidence to approve your loans. It’s not enough to show that you have the ability to pay the installments; they have to see that you have it in your character to actually make the payments when they fall due.
- Open at least three credit accounts ~ One credit line has something to say about you and more credit lines will have more accounts vouching for your credit worthiness. Having multiple credit accounts in good standing with good track records will work for your rating but a new one will be an open book that has nothing to tell. This uncertainty will pull down everything positive your other accounts will tell about you. If you want a good credit rating for any major loan that you have to make, refrain from opening a new credit account up to two years before you are planning to apply for that major loan.
- Keep your credit usage to all accounts at a maximum of 25% ~ If your credit limit is up to $5,000, maintain noting more than a $1,500 balance and never go beyond this. This will show lending companies that your financial status is not stretched to the limit. Remember that the credit ceiling given to the individual is based on the paying capacity of that individual. All lending companies want to maximize on their clients’ business through manageable credit. If you use all your credit lines to the limit then, you are hovering within the fine line between being financially capable of meeting your debts and starting to have overdues. Another credit line will likely tip you over to the delinquency list.
- Make your due dates ~ Whenever you make purchases on your credit card, you are expected to pay for these items on the maximum forty-five-day float. For all purchases you make during a given month for the 1st day to the 31st day, those purchases will have to be paid on the 15th day of the following month. The exact amount of your purchases will appear but so will a figure that will represent a minimum amount of payment that you have to make in case you cannot pay for the whole thing. For the purpose of getting a good score on this category, you should pay for all of your purchases on deferred payment. If you know you cannot pay for the entire amount, you should apply that purchase under a credit installment option.
- Diversify on the type of your credit loans and make the payments ~ For credit card purchases, it would be a good idea to study each purchase and decide which ones to apply on an outright payment on a deferred scheme and which ones to pay on credit installment and use both credit schemes on the totality of your purchases. Being able to mix these schemes up and successfully paying all obligations will show that you are smart borrower, a dependable payer and you are most likely to be able to handle your new loan approval with the same diligence.
Credit Building Strategies
There is way around the system if all you want is a good credit rating without the actual credit card. You can get a secured credit card. If you don’t want the temptation of falling into the uncontrollable urge to exhaust credit limits, use a secured credit card that will only allow you to purchase an amount equal to what you have deposited. This is different from pre-paid cards and debit cards that don’t report your transactions to credit bureaus. A secured credit card provides you with the safety of a debit card and the credit history building advantages of a credit card. Or, you can be an authorized user of another good credit account. If your parents, brother or sister have a good credit rating, you can benefit from their good credit practice if you are one of their authorized users. This means that their good credit scores will also be yours as you are sharing in the account. It may be a little hard to win this trust but maybe if you let them keep the actual extension card, they will be convinced of your non-malicious intent.
If you already have a credit card then, these tricks will help you get a better credit rating. You can apply for an increase in credit limit and not actually use the available credit. This will improve you scores dramatically in that 30% component of your credit score which refers to your available credit line. An increased credit limit will win you more points for as long as you don’t; increase your usage as well. Also, one of the most effective ways of assuring that you make those payments as they fall due is to apply for an automatic paying system or automatic debit system against your bank account. If all you are suffering is short term memory loss and not actual financial loss then, this is the best system. You are not likely to forget to supply your deposit accounts with the sufficient balance especially if this is your salary and family savings account.
Lastly, you can always pay multiple payments. This system will work best for people who get bi-monthly and weekly salaries. Your current pay check may only be sufficient to pay the minimum on your monthly credit billing but there is no rule against making another payment one week or two weeks after when you receive another pay check. Of course, this scheme will only work if you also work on limiting your credit card usage as well. The rule is very simple, if I improve my credit, I will have better chances of getting approvals on the significant loans from the best lending companies that offer the lowest rates. It is all a matter of setting the right perspectives in life. Use your credit cards for less important purchases for credit rating sake so you’ll get the best chance for being approved for life-changing investments.