In modern times, credit health is part of one’s financial power. It allows the borrower to make purchases and elevate the lifestyle. The key factors that matter to a borrower’s credit profile are the credit score and credit history. However, people often get confused between the two since, there is a fine line of distinction between them and they are even inter-related.
This means that while credit scores are based on the borrower’s credit history, the length of the history has a major impact on the scores. Another way to look at it is, if the credit history is good, the score will be equally impressive.
On the other hand, if the borrower has never availed a loan, there will be no credit history, and consequently, no scores could have been generated.
So, you see that while both are an integral part of a credit report, the three-digit scores and depict a borrower’s financial creditworthiness in the market, and if one really wants to know how diligent the borrower has been with his payment habits, one will have to dig into the credit and review the history.
Credit History: A credit history is a detailed description of how a person uses his money such as credit accounts, balances, dues, and details of the credit-holder’s payment history, and so on. The history is created on the basis of data compiled and forwarded by financial institutions, collection agencies, credit card companies, and other creditors to the credit bureaus. The data includes the borrower’s payment habits and based on this, the bureaus start the computation process.
Credit score: Once the process of computation is completed, the bureaus grade the borrowers with three-digit numbers ranging from 300 to 900. These scores reveal how responsible the borrower has been with the finances and they increase or decrease depending upon the financial habits of the borrower. Scores that are within the range of 750 and 900 are considered to be excellent while lenders consider those closer to 300 as ‘risky-borrowers’. Secondly, when a borrower applies for a loan, the scores are the first thing that the lenders take into consideration to determine the prospective borrower’s creditworthiness.
Credit history impacts scores The length of credit history accounts for 35% of the total credit. It is a significant percentage contributing towards the scores and the concept that goes with it is ‘longer is the credit history, better it is for the credit score’.
Simply put, the credit history starts when the borrower opens a credit or takes a loan for the first time and as time passes, the credit’s age is determined.
Factors that influence credit history
Regular Repayments: It is important to be regular with repayment of dues. It is an indication for lenders that borrowers who have been regular with repayment of dues are financially responsible. Faltering in making payments could eventually mean hurting the scores.
Active Loan Accounts: Loan accounts such as credit cards, retail accounts, personal loan accounts, finance company accounts influence credit history in a big way. A mix of credit account and paying them off regularly shows the lenders how responsible the borrower is. Failure to successfully manage different types of credit and the payment systems reflects poor management qualities.
Adverse Public Record: These are of serious nature and impact the credit history negatively. Public records such as bankruptcies, lawsuits, tax liens, civil judgments, unpaid accounts and wage attachments stay on the credit report for 7 to 10 years and mess up the credit history.
Factors that influence credit scores
Payment History: This accounts for 35% of a borrower’s total credit score. It is a critical factor that determines the credit power of an individual. It comprises details of payments such as utility bills, credit card bills, and monthly loan installments. In short, it is a record of the borrowers past and present dues.
Credit Utilization: It is the ratio or share of the amount that a borrower has used compared to the overall credit limit. It accounts for 30% of credit scores and, hence borrowers must keep the utilization limit low. Length of Credit History: As said earlier, this helps build a credit score by 15%. The length of credit history also gets influenced by the types of accounts (revolving or installment) the borrower has.
Credit Mix: It is a variety of loans in a borrower’s credit file. A healthy credit mix includes credit cards, student loans, automobiles, and mortgages and they influence credit scores by 10%.
New Credit: This attributes to 10% of credit score. The first step to opening a new credit requires a hard pull that impacts the credit scores negatively. However, the overall impact of a new credit line depends on how the borrower utilises it. It helps the borrower to diversify and have a better credit mix. Also, new credit could affect the borrower’s credit history length as it lowers the average age of total accounts. This could eventually hurt the scores.
How to boost credit scores with the help of credit history?
As mentioned above, credit history is a key factor that contributes majorly to the credit scores. Therefore, it is extremely important to maintain a healthy repayment record in order to keep the scores high. So, here are some tips to have an excellent credit history.
Avoid skipping payments – As the repayment history alone contributes about 35% of overall scores, thus, it is significant to ensure timely payments of credit card dues and loan EMIs. Even a single default payment could have adverse affects, majorly hitting the scores. Therefore, it is advised to not land into the debt trap unless you’re sure of making timely payments.
Don’t use too much credit – Even though you might have higher credit limits available, it is advised to avoid using too much credits, especially for irrelevant expenses like shopping, partying, or buying unnecessary stuff. Doing so will ultimately put debt burden on you, which will directly impact your paying capacity. It would be difficult for to make the repayments of the dues after exceeding the set budget. Hence, try keeping the credit utilization below 30% as it will be easy for you to make on-time payments.
Avoid taking frequent credits – No matter how badly you need a loan, it is not at all advisable to make frequent credit applications in a short span of time. Lenders often are not impressed with high frequency of applications as they consider the action as credit hungry.
Public records – Any public record such as foreclosure, liens, repossession, bankruptcy, collection accounts, judgments, and charge-offs, reported in the credit history will only hit the scores negatively. Therefore, it is of utmost importance to maintain the credit accounts delicately, otherwise your scores could see a major dip ranging from 40 to 100 points, subject to type of public record and credit amount. In addition, these red flags could remain on the credit report for up to 7 years, thus, affecting your financial health in long-run.