You’ve probably heard of a credit score but what is it & what is it used for?
A credit score is something a lender calculates when deciding whether to make a loan to a potential borrower. Not all lenders will use a credit score, however they are becoming more common as they allow lenders to assess applications quickly, automatically and at low cost.
When you apply for a loan, credit card, mortgage or any other type of credit the lender who receives you loan application needs to assess whether you will be able to afford the repayments as well as your creditworthiness.
To do this, they will look at the information you have given them on your application form, together with the information help by the credit reference agencies in your name and any experience they have of you as a customer. They will then use all of this information to create a score. This helps them assess the chances that you will be able to repay the money you want to borrow.
People with a high credit score are typically seen as being more likely to repay a loan. They are therefore seen as lower risk and have a greater chance of getting the loan – possibly at a lower rate.
Different lenders will have different approaches to credit scores. This is because they will have different past experiences and expectations of their borrowers. When looking at whether they want to lend to you, or what rate they want to charge for the loan they can take different factors into consideration. They can even score the same factors differently.
The same lender may even, for example, score a mortgage application differently to a credit card. There is no single “good” or “bad” credit score. Just as lenders use their own formula when calculating a credit score, they can also set different thresholds for accepting or declining an application. As with the methods they calculate the score this will usually be determined by:
- The type of credit you want, so you could be accepted for an overdraft or mobile phone account but have a request for a car loan refused.
- The lenders past experience of customers like you
- The lenders appetite for risk. Lenders specialising in, for instance, lower-income customers may grant someone credit when another lender refuses.
Credit scores change over time, as your circumstances change. For example, paying off a loan could result in a higher credit score, while missing several repayments could reduce it. Having no credit history can sometimes be an issue, whilst having too much credit can also harm your credit score. If you have credit cards that you don’t use, for example, it’s always an idea to close them down as they can still count against your credit score with some lenders.
It's always a good idea to check your credit report before applying for credit. You may spot areas you can improve upon.
There are three main credit reference agencies; Callcredit, Equifax & Experian. They each maintain a credit file in your name, which lenders can view when you make an application for credit. This contains information on any existing or repaid credit, good or bad. It will also show the lender information about yourself and your financial dealings. Your credit report will contain:
- Personal details, such as your name, date of birth, current address and previous addresses.
- Whether you’re on the electoral roll or not.
- Details of any financial links you have to other people.
- A record of any County Court Judgements (relating to unpaid bills where you have been taken to court), bankruptcies & defaults.
- The balances and payments on any current loans and if you are making them.
- A list of recent searches by other lenders.
What helps to improve your credit score - and what doesn’t
It’s important to maintain your credit score - but in order to do that, you’ll need to know what improves and what hurts your credit history. Once you know this, you’ll be able to take steps to improve your credit score and increase your chances of getting credit.
We’ll start with the things that damage your credit score. Your credit score will be lower if you:
- Miss credit repayments. Late payments are recorded on your credit file, and missing just one repayment can end up damaging your credit profile.
- Default on loans. Defaults and CCJ’s can be big black marks and make it very difficult for you to obtain credit in the future
- Are not registered to vote. Lenders use the electoral roll to confirm your address. If you’re not registered, your chances of getting credit may be hurt.
- Make lots of credit applications in a short period. Applying for too much credit in a short space of time can make it appear like you’re in financial difficulty, even if you’re not.
- Are financially linked to someone with a bad credit history. Sharing finances with someone else means that when you make any credit application, both of your credit files will be assessed. So if your partner has a bad credit history, this have an impact on you.
- Have lots of available credit already. Too much credit (like store or credit cards) can affect your credit rating - even if you aren’t using it.
So now you know what counts against your credit score, how about what counts for it?
- A good history of credit repayments. If your credit report shows that you’ve paid back your debts on time and in full, your credit score will be higher. This can include your mobile phone & utility bills, so make sure you stay on top of these too.
- You’re on the electoral register and own your home, or you’ve lived at the same address for at least a year.
- There is evidence of stability - for example, you’ve had the same bank account for a long time.
- You don’t have lots of outstanding credit, or credit cards that you don’t use
- You’re not financially linked to anyone with a bad credit score through a mortgage, joint bank account, or other credit payments.
How to check your credit file
You have a legal right to see what information is held on your credit file. There are several websites that offer you access to your credit file in return for an upfront payment, or alternatively you can contact one or all of the main credit references and ask for a copy of your file. Full details of how to do this can be found on their individual websites
It’s often worth contacting all three of the main agencies for details of your credit file as it is possible that they may have different information.
Understanding your credit report
If you’ve never checked your credit report before, it might seem a bit confusing. Your credit report contains details on your personal credit history, including mortgages, loans, credit cards, overdrafts, mobile phone contracts and utility bills.
Your credit report provides a snapshot of all credit accounts you have, along with details of how well you’ve managed to repay money that you owe. Lenders look at your credit report when you apply for credit, and use it as an indication of how responsible it would be to lend to you.
When you read your credit report, you’ll see a few different pieces of information about you and your financial dealings. The first section of your credit report includes things like your name, address and date of birth, as well as details of any other names you might be known by and previous addresses you’ve lived at within the last six years. This section of your credit report also provides information about any financial links you might have with other people, such as a partner.
Your credit report also shows whether or not you’re registered to vote in the UK. This is important as being on the electoral roll means that lenders (and any other company that needs to check your credit report) can confirm your name and address, and verify that you are who you say you are when you make an application.
On your credit report, you’ll find information about credit accounts that you have (and have had in the past), and whether you’ve made repayments on time and in full. If you’ve missed any payments, these will leave a mark on your credit report. County court judgements (CCJs), bankruptcies and individual voluntary arrangements will also stay on your credit report for a number of years.