How you paid your debts in the past is often a good indicator of how you will pay your debts in the future. Even if you have a negative credit history, you can overcome it.
Lenders also like to see a variety of credit types on your record.
For example, if you apply for a mortgage, and you only have credit cards and the highest credit limit on them is $500, your changes of getting the mortgage might not be as good as someone who had credit cards, a $14,000 car loan taken out three years ago, and a personal loan for $5,000 that was recently paid off. The second person has shown that he is responsible enough to handle credit with higher balances.
In addition to credit types, the length of credit and payment history are also important to creditors. Several newly established accounts may be a warning sign for a potential creditor. These accounts could indicate the start of overextension.
Payment history is also important, because it lets the potential creditor know if you are willing to pay your debts. Think about it. If someone gets a loan with no intention of repaying it, that person will have a hard time finding others that will lend money to him or her again. Would you want to lend your money to that person?
Let’s use Kevin and Karen’s credit file over the last few years and find when they opened their accounts, as well as their payment history.
Kevin and Karen got their first credit card in 1985. Sears has reported to the credit bureau that they were 30 days late with one of their payments, but their bill is now current. Although the highest amount Kevin and Karen charged was $350, there is currently a balance of only $98 on the account.
The next account reported to the credit bureau is their mortgage. Kevin and Karen settled on their house in 1986 and have always paid their mortgage on time.
Kevin and Karen purchased some new appliances and furnishings for their home in 1987 and borrowed the money on a 2-year installment loan. The loan was paid off in 1989. Kevin and Karen also have two car loans. One will be paid off in 2 months.
Kevin and Karen have no newly opened accounts, and they have shown that they pay their bills on time. Remember, each lender may use different criteria for evaluating someone’s credit history, but, things look good for Kevin and Karen.
Assets
By having assets in the bank, in particular, a checking or savings account, you increase your chances of having the lender look at you more favorably. It shows that you are responsible enough to maintain these financial accounts. Thus, your level of creditworthiness increases.
References
By listing credit references, you show the lender that you are in a favorable credit position with the references listed. This will increase your character, and in turn, your creditworthiness.
How Lender Uses This Information
Typically, a lender will not look at just one of the criteria described above. All are examined. Even if one is a little weak, the others may be strong enough to permit you to get credit. Again, this is an evaluation of the 3 C’s of credit–capacity, character, and collateral.
Some creditors use a scoring system to qualify applicants. With a scoring system, a certain number of points are assigned to each of the criteria listed above. Then the total number of points is calculated and your score is rated according to a scoring chart.
If you scored 14 or over, many creditors consider you a good credit risk and your chances of getting a loan are quite high. However, you could go to three different creditors and get three different answers. Because each may use different criteria for approval, they may reach different conclusions about your creditworthiness, even though the same information was presented to each company. If you have good, A-1 credit, you can feel comfortable about getting credit with a company that has conservative lending practices. If you have marginal credit, you would want to stay away from conservative lenders, and work with companies that are more liberal in their lending policies.
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