Credit is the ability to borrow money or access goods or services with the understanding that you’ll pay later.
The best way to describe credit is to picture yourself in Las Vegas. You just lost $1000 dollars on the black jack table and a guy sits down next to you that you’ve never met. You ask him to borrow some money. How much money do you think he’ll lend to you? I’d be surprised if he gave you any money because he doesn’t know you, he doesn’t know your history, and he doesn’t know if you will ever pay him back.
Lenders, merchants and service providers grant credit (lend money) based on their confidence you can be trusted to pay back what you borrowed, along with any finance charges that may apply.
If your best friend that you’ve known since high school was the person that sat down with you at the black jack table and you asked him to borrow money how much would they lend to you?
That is totally going to depend on a lot of things. How long you’ve known him (Credit Length) If you have paid him back before (Credit History) How often you hit him up for money (Credit Inquires and new credit) and a few other factors I’ll explain later!
Banks, lenders and businesses look at your credit report and credit score to decide if you’re good credit is worth the risk of letting you borrow money.
What affects my credit score?
As you navigate the financial waters, your fiscal well-being is as good as your last Credit score. Lenders, auto dealers, mortgage providers, landlords, and other numerous service providers across the nation use your credit score to gauge your financial discipline and responsibility. Creditworthiness is crucial in all financial dealings. In essence, it determines whether you are embraced or shunned in these circles. It is imperative, therefore, that the score’s position is guarded with the zeal it deserves. The Credit score evolves, grows, tumbles, diminishes, stagnates, and shoots up, depending on its account holder’s day-to-day financial practice. Below are the factors that affect credit along with the weight they carry on a ratio scale;
- Your history of payment matters, 35%
In the world of credit, every milestone counts, and past mistakes can adversely hinder the present and future possibilities. Your payment history leads the pack as a factor that can favorably or adversely affect credit. The key question behind this is how faithful and dutiful you are in servicing your previous. It is important not only to affect the payments but to do it on time as scheduled. It follows then that even late payments are further categorized depending on the attendant duration of the delay. Previous public records can taint your credit, too; these include but are not limited to bankruptcies, foreclosures, debt settlements, public judgments, charge offs and related offenses. Every lender is wary of these blots on a borrower’s sheet!
- Amount owed. Your appetite for credit, 30%
This measure on the credit meter indicates your borrowing appetite. The measure can be deduced from the average amount utilized so far against the credit limits offered by various accounts, the amount you have utilized, and the solidity shown by your ongoing payments. A healthy balance is sought between the amount owed and the existing limit.
The rule of thumb observed here is that consuming more than 30% of your available amount is a negative indicator. While it is proper to maintain a relatively smaller figure on this one, it is not advisable to mute it at zero. It doesn’t help if you don’t borrow at all. It helps a lot if you borrow and pay promptly.
- The length of credit history. A veteran or a newbie? 15%
This factor indicates how long you have been up and about the credit streets. In the calculation of creditworthiness, two important points are worth noting when it comes to this length. It is fine to have a long period of credit history if it is not marred by negative information items such as bankruptcies. Equally, it is also proper to have a shorter period if it is not bogged down by a humongous appetite for heavy borrowing (too much-owed amount).
- Credit type portfolio. 10%
An applicant with the capacity to effectively managing a wide variety of existing credit accounts is considered safe. This factor focuses on the mix of credit accounts held simultaneously and their current and ongoing statuses. The more types and diversities credit accounts (student, car loan, mortgage, credit card, etc.) are holding and servicing, the higher the credit score rating.
- New Credit. 10%
This factor focuses on the recent credit accounts an individual has opened and the time this was done. It also involves the hard inquiries conducted on the individual. This factor’s significance stems from the assumption (rightly or not) that some individuals tend to pursue new accounts to accumulate new debt or are compelled by financial difficulties.
It is obvious that today’s favorable credit rating is a product of financial decisions undertaken in the past. Equally, an excellent score in the future is an accumulation of the past and the present. Good credit is not awarded but progressively earned. Good credit hence calls for strict observance of one’s financial obligations without fail. In a nutshell, to maintain or increase the credit score, it is important to make payments on time, pay up any outstanding balances, and conduct a credit repair by resolving the inaccuracies in any Credit report and avoiding the negative marks that taint the report.
How Credit Works
In the united states, lenders typically look to your credit history (your record of borrowing & repaying money) as a first step in determining whether to issue you credit.
Your credit history is summarized in files known as credit reports, compiled by three independent credit bureaus—Experian, TransUnion and Equifax.
Information in your credit report includes:
The number of credit card accounts you have, their borrowing limits and current outstanding balances:
The amounts of any loans you’ve taken out and how much of them you’ve paid back:
Your payments Whether your monthly payments for your accounts were made on time, late or missed altogether:
Financial challenges such as mortgage foreclosures, car repossessions and bankruptcies
These all factor into your credit report and creditors often use this information to give you a three-digit number known as a credit score:
The higher the score the better.
Related: Guide To Credit Score Levels
What Are the Types of Credit?
There are two main types of credit:
Revolving credit: With revolving credit, you are given a maximum borrowing limit, and you can make charges up to that limit. You must make a minimum payment each month, but otherwise the amount you pay can be any portion of your outstanding charges, up to the full amount. If you make a partial payment, you will carry forward the remainder of your balance, or revolve the debt. However Paying off revolving credit balances in full is usually the best thing to do. Your credit score looks at the debt balance and available borrowing limit to calculate your credit utilization rate. If this number is above 30% it will negatively affect your score.
Installment credit: Installment credit is a loan for a specific amount of money you agree to repay, plus interest and fees, in a series of equal monthly payments (installments) over a fixed period of time. Car loans, personal loans, student debt, & home mortgages are examples of installment credit.
Where can I check my credit?
There are multiple ways to check on your credit the three best sites to check your credit are:
Why Do You Need Credit?
Credit is designed to allow you to buy the things you need today with the money you’ll have in the future.
A higher credit score can mean better interest rates and terms on loans and credit cards. Many card issuers also reserve their most enticing rewards cards for customers with great credit.
If you have bad credit, you might not get approved for loans or you might pay higher fees and more money due to the fact that your credit score isn’t ideal to the lender. You can fix your bad credit yourself or hire a credit repair company.
Ready to fix your credit?
Who Looks at my credit report and score?
Did you know that Lenders aren’t the only ones who concern themselves with your credit reports & credit scores:
As a real estate investor myself: I can say that most landlords may check your credit when deciding if they’ll rent you an apartment.
Insurance companies may use your credit scores as factors in determining your rates.
Service companies like cell phone providers and gas companies may check your credit before deciding to let you open an account.
Employers may use information found in credit reports to make a hiring decision.
Credit is a tool that needs to be sharpened over the years, If you’re ready to take your credit to new heights check out our credit repair training!