Let’s say you want to take out a loan — for example, a car loan. After thorough internet research, you’ve found the perfect offer with a great interest rate. The terms fit perfectly into your plans. However, despite the excellent conditions, the fine print tells a different story — mentioning something about a profound credit history analysis. What could that mean?
What Is Credit History?
Credit history is a way for lenders to decide if you are eligible for taking out a loan or credit. Your credit history is a record of your financial actions. By looking at your credit history, the lender can see how responsible you are towards financial obligations. If you’ve had a past debt that you paid back, with regular payments, it shows that you are fiscally responsible and have the will to repay your debts. Lenders are always prone to offer their money to people who, after credit analysis, will repay the debt. But, even if you think your credit score isn’t the greatest, your credit score isn’t the only parameter considered.
What is Your Credit Score?
You can think of your credit score as a mathematically formulated story of how you handle your finances. Most countries have a credit score system. Similar to grading in school, each individual is given a score according to their credit history.
Credit scores usually range from 300 to 850. Having a high credit score determines if lenders will allow you to take out loans. For example, an individual with a score below 580 may have trouble securing a loan. 67% of Americans have a score between 670 and 739. Borrowers with a score between 740 and 799 are very responsible, and scores of 800 and more are considered exceptional.
Why Should You Care About Your Credit History?
Loans are a necessary part of life for many people. There are many reasons for borrowing money: you want to go to college, buy a house, support your family, or start a business. Most of these things require a large, lump sum of money that you may not have at the moment.
That’s normal, and it’s convenient to turn to lenders. Creditors will borrow you money under the premise you repay it, most likely with interest (a percentage of the loan that you need to pay to the lender), along with the full repayment of the loan itself. Now, why is this important and how does it relate to your credit score?
Let’s introduce Mike and John to the story. Mike and John live in the same town, are of the same age, have the same job and receive the same salary. Mike and John both finished the same college and are both repaying the same student loan. Mike pays his monthly checks to the lender he borrowed money from, while John is often late with his monthly payments. Mike’s credit score is around 750, while John’s is around 600.
If Mike and John want to borrow money, say $1000, from the same lender, the offers they receive will be different. Mike will have to repay the loan with an interest rate of 5%, amounting to $50 that the lender receives. John, who often misses payments will get a higher interest, for example, 10%. That means he will have to pay $100 to the lender, along with the $1000 of principal; and Mike will only cash out $50 of interest.
How Do You Build a Good Credit Score?
You can do a few things to increase your credit score:
- Having a long credit history — by having a long credit history lenders and companies can see how you have been handling your financial situations;
- Having a low credit utilization rate — when taking out a credit card, you have an upper limit to what you can spend. If you only spend a small fraction of the allowed amount, you have a low utilization rate. Lenders consider this a sign of good financial habits;
Paying on time — If you want to keep a good credit history, try to make timely payments. This is not always easy, but will improve your credit rating, and save you money when taking out new loans.