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What Bad Credit Really Means

By Tracy Scott

Financial goals of early retirement, extended cruise vacations, or simply paying for your child’s college education can be just out of reach when you have bad credit. Funds that would otherwise be used to pay for what matters most are eaten up by high-interest rates that feel like punishment for prior credit slip-ups. Worst case, credit denials prevent you from purchasing a home, driving a new car or opening a business.

Learn more about how bad credit can limit the opportunity to live your dream life and what you can do to change your financial destiny.

You’ll Pay More for Your Home or Vehicle

The lower the interest rate on your mortgage or auto loan, the closer you are to paying only for the amount financed. Couple high-interest rates with extended loan terms and you can wind up paying up to 50% more for your dream home or car. You need good credit to receive favorable loan terms and interest rates.

You May Miss Out on Employment Opportunities

Interested in working in the financial services industry or another sector that deals with theft or fraud? You were likely expecting a background check but don’t be surprised if a credit check is also required. Potential employers can request a limited review of your credit history as a condition of employment. With your authorization, they can have a peek at how you’ve handled your finances to gauge your level of fiscal responsibility.

Past due accounts and high account balances not only hurt your credit but may be interpreted as poor fiscal management. Employers are more likely to select a candidate with a strong credit history – all other things being equal.

Financial Goals Are Harder to Achieve

Money spent on higher interest rates, non-refundable security deposits, higher car insurance premiums, or miscellaneous fees due to bad credit is cash not used to support the realization of your financial goals. These goals have to be funded somehow no matter your income.

What Goes into A Bad Credit Score?

Bad credit is often represented by a credit score below 670. Credit scores generally range from 300-850 depending on the credit scoring agency and scoring model used to figure your score. FICO® and VantageScore each use data collected by the major credit reporting bureaus to calculate a numerical representation of your credit responsibility. The higher the score, the better. Each credit scoring agency uses similar criteria to assign a score:

  • Payment History – On-time, late, or past due payments and accounts that are currently in or have been in collections might indicate a borrower’s likelihood of repaying the debt obligation
  • Account Balances – How much of your available credit is being used (aka credit utilization) while you’re seeking additional credit
  • Length of Credit History – The age of credit accounts offers a foundation to assess the history of responsible credit use or highlight periods of credit struggles
  • New Credit Accounts – A cluster of account openings may alert a potential creditor that additional credit lines are not a good idea
  • Type of Credit Accounts – Installment accounts (loans) and revolving accounts (credit cards) are encouraged since they indicate that the borrower has a history with different types of repayment requirements

The weight given to each category varies by agency.

What’s Not Contributing to A Bad Credit Score

Your credit score is based on your credit usage. Some common myths can keep you from improving your credit as fast as you’d like. These credit score myths keep your focus away from the things you can do to improve a bad credit score. Let’s clear up a few right now.

  • Carrying an account balance does not increase your score. Paying off your balance each month is a good idea and will help you avoid interest charges.
  • Your demographics, e.g., age, marital status, employment history, race, nationality, etc. do not affect your credit score.
  • Medically related debts do not lower your credit score. Having a medical bill does not automatically mean payments are reported to a credit bureau or credit scoring agency. If however, the medical bill is sent to collections, the creditor will likely report the status of non-payment to the credit reporting bureaus.

If you can’t get approved, then your options are limited. Fortunately, you can turn your credit profile around by:

  • Bringing your past due or delinquent accounts current. Do everything you can to pay your bills on time since this one act has the most significant impact on your credit score.
  • Keep your credit accounts below 30% of the available balance. High credit usage indicates a higher risk of being overextended.
  • Don’t close accounts you haven’t used recently. Keep them open since they help demonstrate your history of timely payments and lower your credit utilization ratio.