Credit management skills are essential for having better control on personal finances. It is impossible to lead a credit-free life as you have to depend on loans that give more fluidity to your personal finance and help to fulfill various wishes and ambitions in life. To have better control of personal finance, you must acquire credit management skills. Knowing your financial status vis-à-vis credits availed is very important as it helps you to make better decisions about your money. An easy way to know your financial standing and how you fare in the eyes of lenders is to refer to the credit score. The credit score has acquired immense importance in our lives today because it shows our financial credibility and helps to borrow money easily and at cheaper interest.
Why credit score is important
Whether you want to buy a car, a new home or want to pursue higher studies, you have to avail loans. When you approach lenders, they refer to your credit scores to decide how much feasible it would be to give loans. If you have a poor credit score, it might not prevent you from getting loans, but the price you pay would be higher. Lenders charge higher interest on loans given to people with poor credit score and might even insist for higher collaterals to secure their investment. Poor credit scores can impede your aspirations in life as it becomes difficult to organize the finances you need. Overall, poor credit score is a blemish on your financial track record that projects your image in poor light. Having a good credit report is essential, and in this article, you will find more information about it.
What is a credit report?
Every individual who borrows money has a credit history, and a credit report is a summary of your financial transactions related to borrowing and repayments. The report contains all details about new accounts, closed accounts, bills that remain unpaid, late payments made, missed payments and other activity. Regardless the manner of availing credit, by way of mortgage of by using credit cards, it will reflect in the credit report. The elements of the credit report form the basis of credit score. While the credit report contains elaborate information that captures the credit history, the credit score is a snapshot of your credit status at any point in time.
Credit score (FICO)
The purpose of the credit score is to ascertain your creditworthiness. The credit score expressed in numbers ranging from 300 to 850 has another name as some people call it the FICO score. Fair Isaac Corporation (FICO) is a company that mooted the idea of a credit score by using special skills in predictive analysis. The FICO score has become synonymous to credit score today and is a tool for evaluating credit risk. Equifax Inc, TransUnion, and Experian PLC are the main credit reporting agencies that use the formula derived by Fair Isaac Corporation.
Although the credit bureaus use the same formula for crunching the numbers derived from your personal credit history, they do it in different ways. This gives slightly varying credit scores between the agencies. Lenders use any one of the credit scores to ascertain your reliability as a borrower. A higher credit score is a sign of more reliability, but lenders have their own standards of considering the reliability of borrowers.
Factors that impact a credit score
Although the credit bureaus use different scoring models, there are some common considerations for all.
- Payment history – The payment history is one of the most high-impacting factors of credit score. If you make timely payments of credits and keep doing it consistently, it has a positive effect on credit score. On the contrary, poor payment record comprising of late payment and missed payments affect the credit score negatively.
- A number of accounts – The number of credit accounts you have is a factor that affects the credit score. It also considers how many accounts carry balances. The more zero balance accounts you have better credit score you would earn.
- Credit mix – Some scoring models consider the credit mix, which shows the various sources for availing credits. The number of credit cards you have and the installments loans that you are carrying along has a bearing on your credit score.
- The rate of credit utilization – The ratio between the total credit limits allocated and the extent of credits availed which is your credit card balances, shows the rate of credit utilization and a factor that some scoring models use. Lower credit utilization means you are good at managing credits.
- Payment history – The payment history captures your behavior towards credit management and helps to predict how you are likely to behave in future.
Now that you know what can help to maintain good credit score, you should be able to manage personal finances better.
