A borrower’s credit score is an immeasurably invaluable tool in loan approvals, and the determination of which rates a borrower has access to. It is basically a measure of your creditworthiness. Since lenders don’t have the time to get to know the borrower personally, they need a quick, objective method to see how risky it is to lend someone money. A credit score tells a prospective lender how likely it is that a borrower will hold up their end of a loan agreement.
Due to the large sums of money involved, it goes without saying that lenders want a credit score they can rely on. That’s why credit score bureaus, like Equifax and Experian, keep the exact formula used to create your score top secret. If borrowers can easily manipulate their scores, then their scores are no longer a precise indicator of risk. If that were the case, the scores would become unusable.
Although we aren’t aware of the exact formula, we still have a pretty good idea of what it takes to build toward a great credit score. It’s a process that takes time, but pays off greatly in the journey toward financial independence.
Every credit scoring model takes these four categories into consideration: payment history, length of personal credit history, amount currently owed to creditors, and types of credit currently in use.
Each category expresses something unique regarding you and your risk as a prospective borrower. In order to maximize your credit score and decrease your risk in the eyes of lenders, you should attempt to achieve the following:
A SPOTLESS PAYMENT HISTORY
The most crucial category is also the easiest to excel in. Make your payments! A clean payment history consists of no missed payments. Borrowers who do not satisfy their commitments are deemed riskier than those who do. The reasons for a missed or late payment, unfortunately, do not matter in the eyes of a lender. You must make consistent, on-time (and in-full) payments and you will be well on your way to an excellent credit history.
“Payment History: The most crucial category is also the easiest to excel in.”
Constructing great credit is basically a progression of using today’s credit to demonstrate to the lenders of tomorrow that you can be entrusted to handle their money responsibly. A huge factor in maximizing your credit score and minimizing your perceived risk as a borrower, is proving that you can handle a variety of credit types. A borrower who has managed credit cards responsibly, but has never demonstrated that they can handle a loan, is riskier than a borrower who has managed all types of credit in a positive manner.
Although we don’t have a perfect, fool-proof method to achieve an immaculate credit score, we know what path we must travel in order to construct a strong credit history. You should always try to be the kind of borrower you would lend to, if you were in the lender’s shoes. If you borrow wisely and fulfill your commitments, your credit score will surely indicate what kind of borrower you truly are.
A LONG CREDIT HISTORY
Lenders are more likely to feel comfortable lending money to a borrower who has been using credit positively for a multitude of years. That’s why it’s essential to start using credit responsibly at an early age. A lengthy history of using credit wisely will have an extremely advantageous effect on your credit score.
A positive and long credit history is typically measured by the age of your existing credit accounts. The rule for these is the older, the better. Please think twice when shutting down old accounts in favor of opening new ones – there may likely be a hit to your credit, if only temporary.
LOTS OF AVAILABLE CREDIT
Lenders look at overextended borrowers as risky borrowers. Though this category is a bit more complex than others, it’s not beyond comprehension by any means. The general thought amongst the knowing has been to avoid using more than 40 percent of the credit available to you. Refrain from maxing out your available lines of credit. The more you do, the riskier you appear in the eyes of lenders. Always keep an eye on your debt levels, particularly if you intend on applying for more credit in the future.
A DIVERSE MIX OF CREDIT TYPES
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