Dozens of factors affect your credit report and score. Some negative-seeming items are inevitable; for example, applying for any line of credit gives reason for finance companies to look closer at the report. But why? Everyone has to start somewhere, and most people pay an occasional bill late, so what’s the point of deeming these items negative? Let’s look at this from a lender’s point of view.
1. Late Payments / Defaulted Loans
All lenders wish to lend to people who can repay the loan as agreed. Imagine lending money to unreliable friends. Sure, they will probably pay it back, eventually, but you’re never quite sure when to expect the repayment and you can’t count on reinvesting that money any time soon. So, when a borrower fails to pay as agreed on anything their “risk” goes up and their credit usually goes down. Lenders are all about limiting risk, so most companies are going to avoid such people rather than giving them a second chance because chasing down unreliable consumers can be costly to them.
Now, some lenders are in the business of giving risky borrowers a second chance. But their fees are often considerably higher due to the risk associated with giving bad or no credit loans. High fees allow banks to put more money toward debt collections and dismissing hopeless debt. It’s best for you not to miss your payment due dates and default on your loans.
2. High Percentage of Revolving Balance
A revolving balance is how much you’ve placed on a credit card or borrowed from a line of credit. If you can’t pay off the balance each month, it’s best to keep the percentage of total credit allowed to borrow low, at about 30 percent or less of the credit limit. For example, a credit line of $1,000 shouldn’t have more than $300 used after your monthly payment. Anything above 30 percent is generally considered suboptimal and a “high balance.” Low balances are very beneficial to your credit, while high ones (like 50 to 100 percent) will bring your credit score downs a bit.
From the lender’s point of view, anyone carrying a high balance is doing so because they can’t afford to pay it off. This is probably true for the most part. Being unable to pay the entirety of a balance isn’t too bad. It’s certainly not as bad as paying the balance late or not at all. But it’s questionable to seek additional credit while maintaining a high balance on current lines of credit and loans. If you can’t pay the previous ones, lenders believe it will be risky to extend even more credit to you.
3. Recent Applications for New Credit
All formal applications for new credit are reported to the credit bureaus. You could almost say lenders negatively view people seeking multiple lines of credit, especially when those people have relatively new credit lines or loans already, and are carrying balances on those loans. Typically accounts opened or applied for within the past two years are considered new. It’s a red flag because it seems as if you need additional loans to help pay off the old ones, which could mean you don’t have the means to pay back the original ones.
However, credit scoring algorithms are generally lenient with people who apply for several lines of credit at once, rather than spacing out their applications over several weeks. This is an indication of someone shopping for the best deal, which is a smart financial decision. Make it obvious that you’re looking for one new line of credit, not applying on a whim to see if anyone bites or applying to open up several of them.
Conclusion
When monitoring your credit it’s important to view your financial situation from the lender’s point of view. After all, they’re focusing on their best interests, not yours. Few financial institutions are in the business to do you more favors than them, so keep on top of your credit score by avoiding red flags whenever possible. The occasional red flag is all but inevitable, but consistent, responsible money management will set you apart from the rest of borrowers.