Biggest Factors That Affect Your Credit Score!!
May 28, 2021
All banks in Australia including small finance companies and lenders will check your credit score and your credit history before deciding how much they are willing to loan you and at what interest rate. Do you know banks have an internal RBP (risk-based pricing) method to determine what interest rate they will be charging you based on risk, low credit score means high risk and a high interest rate for you.
On an average of $200k mortgage an extra 0.9% can be $50k over a period of your loan.
Here are the five biggest things that affect your score, how they affect your credit, and what it means when you apply for a loan.
What Counts Toward Your Score
Your credit score shows whether or not you have a history of financial stability and responsible credit management. The score can range from 0 to 1200. Based on the information in your credit file, major credit agencies compile this score. Here are the elements that make up your score and how much weight each aspect carries.
1. Payment History: 35%
This is one key question lenders have on their minds when they give someone money: “Will I get it back on time?”
The most important component of your credit score looks at whether you can be trusted to repay funds that are loaned to you. This component of your score considers the following factors:
- Have you paid your bills on time for each account on your credit report? Paying late has a negative effect on your score.
- If you’ve paid late, how late were you—30 days, 60 days, or 90+ days? The later you are, the worse it is for your score. It also reflects missed payments for that month for accounts.
- Have any of your accounts been sent to collections? This is a red flag to potential lenders that you might not pay them back.
- Do you have any charge-offs, debt settlements, bankruptcies, foreclosures, lawsuits, wage garnishments or attachments, liens, or public judgments against you? These items of public record constitute the most dangerous marks to have on your credit report from a lender’s perspective.
- The time since the last negative event and the frequency of missed payments affect the credit score deduction. Someone who missed several credit card payments 3 years ago, for example, will be seen as less of a risk than a person who missed payments on accounts this year just before applying for another credit.
2. Amounts Owed: 30%
So you might make all your payments on time, but what if you’re about to reach a breaking point?
Credit scoring considers your credit utilization ratio, which measures how much debt you have compared to your available credit limits. This second-most important component looks at the following factors:
- How much of your total available credit have you used? Don’t assume you have to have a $0 balance on your accounts to score high marks here. Less is better, but owing a little bit can be better than owing nothing at all because lenders want to see that if you borrow money, you are responsible and financially stable enough to pay it back.
- How much do you owe on specific types of accounts, such as a mortgage, auto loans, credit cards, and other credit accounts? Credit scoring software likes to see that you have a mix of different types of credit and that you manage them all responsibly.
- How much do you owe in total and how much do you owe compared to the original amount on installment accounts? Again, less is better. Someone who has a balance of $50 on a credit card with a $500 limit, for instance, will seem more responsible than someone who owes $9,500 on a credit card with a $12,000 limit.
3. Length of Credit History: 15%
Your credit score also takes into account how long you have been using credit. For how many years have you had obligations? How old is your oldest account and what is the average age of all your accounts?
Long credit history is helpful (if it’s not tarnished by late payments and other destructive items), but a short history can be satisfactory too as long as you’ve made your payments on time and don’t owe too much in debts.
This is why personal finance experts always recommend leaving credit card accounts open, even if you don’t use them anymore. The account’s age by itself will help boost your score. If you close your oldest credit account you will see your overall score decline, which will work against you in the future.
4. New Credit: 10%
Your Credit score considers how many new accounts you have. It looks at how many new accounts you have applied for recently and when the last time you opened a new account was.
Whenever you apply for a new line of credit, lenders typically do a hard enquiry (also called a hard pull), which is the process of checking your credit information during the underwriting procedure. This is different from a soft enquiry, like retrieving your own credit information.
Hard pulls can cause a small and temporary decline in your credit score. Why? The score assumes that, if you’ve opened or applied for several loans recently and the percentage of these accounts is high compared to the total number, you could be at greater credit risk. Why? Because people tend to do so when they are experiencing cash flow problems or planning to take on lots of new debt thinking they can solve their cash flow issues by borrowing new money.
5. Types of Credit in Use: 10%
The concluding thing the Credit score formula considers in determining your credit score is whether you have a mix of different types of credit, such as credit cards, store accounts, Personal/car loans, and mortgages. It also looks at how many total accounts you have. Since this is a small component of your score, don’t worry if you don’t have accounts in each of these categories, and don’t open new accounts just to increase your mix of credit types.
In recent times Afterpay and Zippay have become popular amongst people and even though they don’t check your credit history or score through credit reporting agencies and have an enquiry registered on your file, beware of some other similar companies like Latitude pay and Zip money who will make an enquiry on your credit file before approving your shopping limit.
Also, be mindful if you have ongoing afterpay or zippay showing in your bank statements when you will apply for any other loan, banks will ask for your bank statement and will consider this as potential risk which may affect your overall borrowing capacity.
Your credit score and credit history are really important and if you are struggling with your current loan repayments or you are over-committed due to a life event and don’t have the expertise to deal with your credit providers, please contact us for an obligation-free chat.
Our experts will work with you based on your situation and propose a plan to help you come out of debt sooner with no black mark on your credit history.
Do not delay and wait for banks to take adverse actions against you, we are here to help you!
We can get you a free copy of your credit file, help you understand and also offer you solutions tailored to your situation.
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