How does my credit score affect my borrowing power?

Understanding and improving your credit score may help you get cheaper loans.

What is a credit score used for?

Your credit score represents how likely you are to repay debt. Knowing your credit score may help you negotiate better terms for loans you apply for or understand why you may be turned down for a credit application.

Maintaining a good credit score is important, as when it comes to qualifying for a credit card, loan or mortgage, your credit score plays a key role in the decision.

Potential lenders want to know how trustworthy you are as a borrower, and since they don’t know you personally, they make a prediction based on your previous loan experiences and credit health.

Your score also impacts the amount of credit a bank or lending institution is prepared to lend you, and the interest rate it will offer.

Given how important a credit score is, and how it may affect decisions you want to make about your finances, it's good to know that you have the right to access your credit score for free.

If there is an issue with your credit score, there are also actions you can take to repair it.

Risk-Based Pricing for Loans

Risk-based pricing refers to how some interest rates on loans are determined by the level of risk you pose to the lender. Your “risk” is usually based on a lot of things, including your credit history and financial situation.

According to Australian Debt Clock, total household debt in March 2021 was $2.9 trillion. It’s a lot of debt, and its why lenders want as detailed a picture as possible of who they are providing credit.

It also means the lower your credit risk, the more flexible a lender can be with interest rates tied to risk-based pricing, as they take comfort from your history and can have higher certainty of loan repayment.

This type of pricing allows for a more personalised loan. Citi Personal Loan Plus is a personal loan that offers risk-based pricing and is a great option for those who want to leverage their good credit rating to achieve a lower interest rate.

What is a good credit score?

The higher your credit score, the better. Credit Bureaus are companies that collect all of the information that appears on your credit report and decide your credit score. Each bureau can give you a different score as they use their own model in the calculation and have different data on you. Banks and lenders usually have established relationships with one or more of the credit bureaus.

Credit Bureaus that offer a free service for obtaining your credit score include Finder, Equifax, GetCreditScore, Wisrcredit, Credit Savvy and Credit Simple. There is other providers, but be cautious of a credit score provider if you are asked to enter credit card details for a free report.

An example of how credit scores are presented, the Equifax credit score ranges include:

Excellent: More than 833 – 1,200

Very Good: 726 - 832

Good: 622 - 725

Average: 510 - 621

Below Average/Weak: 0 – 509

There's no standard credit score that will guarantee you approval for a loan or credit card, but the closer your score is to 1000 the better.

How to improve your credit score?

Your credit score can change even month-to-month, so there are plenty of opportunities to make you more credit-worthy.

Here are six tips to do so:

1/Lower your credit card limits.

Reducing your credit card’s borrow capacity can help you avoid temptation and instead focus on minimising any debts you may already have.

2/Pay your credit card & other loans off on time & in full.

Having a record of consistent and prompt payments will increase your trustworthiness.

Pay your rent and bills on time.

3/Again, having a record of consistent and prompt payments will increase your trustworthiness.

Pay off any outstanding loans and debts. Any outstanding debts or overdue payments remain on your credit report for five years and will reduce your creditworthiness.

4/Limit your credit enquiries.

Too many credit enquires from a third party such as bank (on your behalf when you apply for a loan or credit card) can suggest that you aren’t able to manage your finances.

5/Attempt to have a consistently low balance on your credit card.

A lower credit utilisation (your credit card balance compared to your credit limit) demonstrates that you can responsibly use credit and that you haven't overextended yourself.

6/Keep “good” credit accounts where you have continuously paid on time and in full.

The longer a credit account is upheld without any negative reports, the more it can improve your credit score.

For more information on credit scores and how it's calculated visit ASIC's money smart website.

This information has been prepared by PHA Financial Services and does not take into account your objectives, financial situation or needs. Before acting on this information you should consider whether it is appropriate to your situation. We recommend you obtain financial, legal and taxation advice before making any financial investment decision. The information provided was accurate at the time of publication and changes in circumstances after a document is published may impact on the accuracy of information. Some information may have been collated from various third parties and we make no assertion that the information was originally ours.

Source Citi Wealth 2022