What is my credit score? Your credit score is how financial services see how risky you are to lend money to. We all need credit once in a while – whether to buy a house, a car, or just to harvest extra Amex points.
If your credit rating is bad then you are unlikely to get approved for many loans, mortgages, credit cards and more. What’s more, in order to accommodate you as a risk companies will probably charge you a higher interest rate than someone with a better credit report.
Taking out a loan might seem a good idea at the time. Whether you just want a lump sum to splurge or you have actually run out of cash for essential purchases, loans appeal to our basic instinct of taking care of what’s in front of us without necessarily considering the future.
Anyone who offers a loan – whether an individual or a bank – does so to gain interest on their extra cash. This involves balancing risk. Someone who is more likely to pay back the loan is lower risk and so doesn’t need to pay much interest to balance their risk.
Someone who is more likely to be late paying back the loan or not pay it at all is a bad risk and so lenders will want a good return and so charge a higher interest rate. A book of loans is all about spreading this risk and reward so the interest gained balances out any losses.
Credit card debt is more expensive as a short-term option compared to longer term loans mortages. For this reason it is the first thing you should pay off. Ideally you should never spend more than you can pay off at the end of the month on a credit card. If you do then you face fines for missed payments and will accumulate interest on the total amount due.
That will also impact your credit score, meaning financial services see you as more of a risk. This can make future loans like mortgages more expensive in order to make up for that risk.
If you’re borrowing money this affects you in two ways:
The interest payments mean you owe more in the long run.
Borrowing money means you develop a risk profile – which is your credit score.
You can keep a good credit score by borrowing less and paying it back in full and on time. But if you don’t your credit score may drop and make borrowing in future more difficult and more expensive due to higher interest.
An Experian account lets you access your Experian Credit Score for free which is updated every 30 days each time you log in. Your credit score could make the difference to your chance of getting credit, and Experian believes that everybody should be able to access it without paying a penny. On Experian.co.uk you can also see your chance of being approved for credit cards and personal loans before you put in an application.
There are clear benefits to a good credit score. You are more likely to get credit in future – and that includes “important” credit like a mortgage – and more likely to get a lower interest rate. Even every day credit like credit cards still require a good credit score. Tools like Experian’s free credit report checker will actually give you recommendations of what credit cards you are most likely to be approved for based on your score.
1. Using credit responsibly
While credit is generally best avoided, you can actually improve your credit score by taking out credit and paying it off on time. You’ll improve it by not using too much of your credit limit, making payments on time, keeping accounts for long periods of time, paying your bills on time, and there are many other ways. For this reason if you want to improve your credit score then a credit card might help if you commit to spending very little on it and paying off the balance in full every month. You should only do this if you can commit to this discipline. Unfortunately, many people who find themselves with a low credit score may still struggle to build it back up again with this method.
2. Pay your bills on time
Your utility bills show up on your credit report so you should make sure these are covered. Pay them off as soon as you can. If you can afford to, set up a direct debit so you don’t even need to think about them. If you think you’re overpaying on your utility bills then try a bill-switching service to make sure you are always on the cheapest energy tariff.
2. Avoid too many credit cards
You should probably also avoid holding too many credit cards at once. For one thing, it’s much harder to keep track of more than one or two cards and so it’s easy to forget what you owe and when payment is due. But at the same time your credit record will show that you are taking out more credit – if you have been spending on multiple cards – and you are less likely to have held cards for a long period of time. Lenders may see lots of new credit cards as a sign of someone who is higher risk. On the other hand, someone who has held one card for a long period of time has a clear track record and may be seen as a better risk.
Another, potentially safer way of improving your credit score without taking out credit is with fintech startup LOQBOX. This firm allows you to put away a bit of money each month which counts towards your credit score. At the end of the process you end up with a decent saving, as well as an improved score. You can withdraw this saving as a lump sum for a small fee in return for LOQBOX’s services, or you can transfer it to a new savings account for free as LOQBOX then gets a small referral commission from the bank for introducing you as a customer. This means you get a savings account with a small stash already saved up, which will earn you interest. It’s never too late to start saving, so learn more about it with FinanceFirst. We can help you find bill-switching services that look after your bills for you by automatically moving you onto the cheapest tariff, savings apps that help you save more
No. This is a devious tactic that credit card companies should not be getting away with. You avoid paying a missed payment fine if you pay of the minimum on your credit card debt, but you still get charged interest on the full amount. This too can affect your credit score.
One hack some people use to pay off credit card debt is to get a balance transfer card with a 0% APR introductory offer. That means you may be able to carry the debt on the new card and pay what you can afford until the interest-free period ends. However, you must not spend on the new card or you will simply accumulate more debt. This is a last resort lifeline to get you out of a difficult situation, so be disciplined and make sure all the debt is paid off within the interest-free period.
It’s generally a good idea to turn down the option of an overdraft with a current account. However, if you do find yourself stuck with a large overdraft, there aren’t really any ways around it besides paying down the debt as fast as possible.
The best way to pay down any debt is to look at your budget. Using a weekly or monthly budget is a great way to live within your means and make the best use of your money.
Say you wanted to get rid of your overdraft within a year. Divide the total amount due – plus any interest – into 12 separate payments. Now add those payments to your budget – one each month. If you can’t afford those payments then look at what costs you might be able to remove, in particular leisure activities like drinks, gyms and dining out. If you still can’t afford the payments even with these extra expenses removed then consider extending the repayment period to something like 18 months.
If possible you want to set up a recurring direct debit so your payment goes through automatically each month without you even thinking about it. Try to make the payment as soon as you get paid. That way you won’t run out of money before you need to make the payment. Instead you’ll pay the essentials and then have to work within the remains for the rest of the month.
The current student loan system seems particularly cruel. In 2011 when the student fees cap was lifted from £3000 per year to £9000 it was expected that only the top universities would hike fees. Instead, everyone who finishes university is now lumbered with at least £27,000 in fees plus three years of maintenance costs. Worse still is the fact that that loan has a significant interest rate.
But don’t panic.
Yes, the student loan system isn’t great. But thankfully student debt is perhaps one of the nicer debts you will ever have. Student loan repayments only kick in once you’re earning over £25,725 (or £18,935 for earlier Plan 1 loans) and stop if you’re ever out of work. Even the amount you pay back is controlled – it’s only 9% of your income thats over the repayment threshold. Plus your student loan has no impact on your credit score.
Recent graduates will be on student loan repayment Plan 2. Plan 2 loan repayments start once you earn over the annual threshold of £25,725 a year. So you will only ever pay back 9% of what you earn over that.
And after all that they cancel the loan around 30 years after you started paying it back. For this reason the majority of graduates will never pay back the full amount plus interest. For this reason it is probably best not to pay off your student loan early and if you have the money you might be better off using the it elsewhere like on a house deposit or investing it.