Bad Credit

Bad or poor credit refers to a low credit score (sometimes called credit rating).

Somebody with bad credit has likely struggled with repaying debts in the past or currently has a lot of outstanding debt and is deemed a risky borrower by lenders.

Everyone in the United States is assigned a credit score and report based on their borrowing behaviour.

There are ways to check you credit for free and we listed 6 easiest of them here.

These are generated by several different credit rating agencies and reporting bureaus.

The most commonly used score is called the FICO score, which was created by the Fair Isaac Corporation.

Lenders perform credit checks on potential borrowers by looking up this score, among other reported information.

Lenders also share the relationships they've had with borrowers with credit bureaus, who compile the reports.

If a borrower misses a payment for example, this will eventually make its way on to their credit report and all lenders that perform a credit check can see this.

Bad credit is a generalized term for those who have a low score. In the case of FICO, a number between 300 and 630 can be considered bad, but different lenders interpret scores based on their own internal policies.

So called 'great credit' falls between 720 and 850. Borrowers with this type of score have access to the widest range of loan and credit products, with the best interest rates and terms.

Conversely, those with poor credit are generally offered high interest rates and a restricted amount of options (like payday loans that sometimes do not check credit) - if they're approved at all.

Having bad credit can be a barrier to mortgages, car finance and credit cards - many of the financial products that are integral to modern life.

Insurance companies also access your credit score when giving you a rate and landlords may demand a high deposit or turn you down outright for a rental property if your score is low.

Even cell phone providers commonly levy a charge against those with bad credit before accepting them on to a contract.

It is therefore important to maintain at least a fair credit score of 630 or more, based on the FICO model. This can be accomplished by borrowing reasonable amounts and meeting the terms of the agreement.

Factors

Leading factors that contribute to bad credit include a history of late loan or credit card payments, loan defaults, having an account passed on to a collection agency, filing for bankruptcy; and having a home, vehicle or other valuable property repossessed.

Other factors that can also lower your credit score include having lots of outstanding long-term debt (i.e. multiple credit cards with high balances, alongside loans or a mortgage), having access to too much credit (i.e. an excessive number of credit cards even if balances are low or zero), and applying for lots of different credit or loan products in a short space of time (especially when you keep getting rejected).

Getting knocked down from a good rating to a poor rating will usually require several of the above negative factors to occur over a short period - for example, failing to pay off a loan, filing for bankruptcy and frantically applying for new credit cards.

Some people believe that they are in a good position if they never borrow until important instances like a mortgage, however if you have no credit history to compile, your report you will not present a high score.

This is because lenders want proof that you are a responsible and experienced borrower and this can only be accomplished by actually borrowing. Even just having one credit card that you pay off in full each month is a way of building a good credit history.

Fixing Bad Credit

The first step to fixing bad credit is to recognize that you have it. You can do this be accessing your credit report, which is free of charge in the US one time per year. There are three main credit bureaus and their reports are the most accessed by lenders.

Your report will include your overall credit score, a summary of your current and past credit and loan accounts, your monthly standing for these accounts - including whether you've missed payments, and whether you've filed for bankruptcy or had any court judgements.

It's important to check the information in you report to see if it's accurate, because if it's incorrect you could be wrongly hindered when applying for new credit.

If you have a low score you should have a good idea of what's causing it based on the report. If you have any open accounts with a poor record of repayments, you should focus on paying off this debt and settling the accounts first.

Rebuilding your credit score takes time, but is a fairly simple process.

For example you might start by taking out a credit card with a small limit and using it to pay for a few bills or purchases each month, before paying it off in full.

The idea is to show lenders that you can borrow responsibly, making payments on time without borrowing more than you can handle.

After 7 years negative information held on your credit report is erased.

This doesn't mean you can't rebuild your score for 7 years, but it does mean it will be easier after this point.

References:

  1. https://www.thebalance.com/what-is-bad-credit-960369
  2. https://www.nerdwallet.com/blog/finance/what-is-bad-credit/
  3. https://www.credit.com/credit-scores/what-is-a-bad-credit-score/
  4. http://www.investopedia.com/ask/answers/05/creditscorecalculation.asp