Improve your credit profile

2012-08-22 08:50

A friend of mine recently asked me how he could improve his credit profile and also get a better rate when he goes to buy a new car. This actually got me thinking as to how many of us know how the banks/lenders function and most importantly how they determine if they grant you credit or not for a house, car, short-term credit, loans etc.

This boils down to personal financial management. Managing your personal finance is extremely important if you are young person just starting out with your career. Managing your finances will ultimately determine the type of lifestyle you live.

Credit scoring is based on 5 things. And for some of us we may not be aware or even know how to manage them. The amount of credit you get and the interest that gets given to you in based on the following:

  • Your Payment History
  • Amounts You Owe
  • Length of Your Credit History
  • Types of Credit Used
  • Your New Credit

You can improve your credit scores by taking a close look at your credit reports and charting a plan of action to improve them.

Improve Your Payment History

It is important to always pay your bills on time. Late payments play a major role in driving down your score. If you have past-due bills now, get current and stay that way. You need to contact your creditors as soon as you know you will have a problem paying bills on time. Try to work out a payment arrangement and negotiate with them to keep at least a portion of the late notations off of your credit reports.

Keep Debt to a Minimum

If you need to have a good credit history you need to keep your credit card balances low. High debt-to-credit-limit ratios drive your scores down i.e. the amounts you owe on instalment loan accounts vs. their original balances. Owing the same amounts, but having fewer open accounts, can lower your score if you max out the accounts involved.

Another interesting factor is that once you have paid off your account; don't close unused accounts, because zero balance might help your credit score.

Length of Your Credit History

Time is the only thing that can improve this aspect of your scores, but you can manage it wisely. Don't open several new accounts in a short period, especially if your credit history is less than three years and you are planning to buy a car. Adding accounts too rapidly sends up a red flag that you might not be able to handle your credit responsibly.

The Types of Credit You Use

What I find fascinating is that you need to have a mixture of credit cards and installment loans, loans with fixed payments, that can help raise your score if you manage the credit cards responsibly. If you have similar type of accounts e.g. Edgars, Truthworths, Markhams those do not necessarily improve your credit rating.

Manage New Credit Wisely

Several credit inquiries during a short period means you are attempting to open multiple new accounts, and that lowers your credit scores. Credit scoring software usually recognises when you are shopping for a single loan within a short period of time, such as a home loan.

Which parts of a credit history are most important?

Use these percentages as a guide for the breakdown of the approximate value that each aspect of your credit report adds to a credit score calculation:

35% - Your Payment History
30% - Amounts You Owe
15% - Length of Your Credit History
10% - Types of Credit Used
10% - New Credit

If you have a good credit score lenders/banks will offer more financing options and better interest rates.

The Prime Lending Rate is currently 8.5% as of July 2012.

The rate that is given to you by the bank at times depends on your credit profile/history. Your personal credit profile plays a major role in determining the amount that the bank is prepared to lend you when you want to purchase a huge asset like a car or house.

If you are high risk customer at times the bank will give you a loan at a high interest rate based on your credit profile.

The size of the home loan determines the interest rate discount that you will get. Home loans above R1 000 000 usually qualify for a discounted rate i.e. a rate that is less than 8.5%.

It is interesting to note that the credit card rate is between 18%-30% depending on your credit profile. For short-term loans it is between R21%-34% depending on your credit profile as well.

The cost of money is interest and most of us; we cannot run away from it but we can manage it better. In an ideal world we should be buying our cars and houses for cash. But it is generally impossible for most of us to buy a house worth over R1million for cash. Hence you need a good credit scoring to ensure that you can buy that dream home.

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