The Truth about your Credit Report

Somewhere along the line, with all the conflicting information that's been disseminated through the years, it's pretty understandable that people developed all kinds of ideas about credit reports and credit scores. After all, for a very long time, no one was allowed to know their credit score. For all we as the borrowing public knew, the lender could be flipping a coin behind closed doors to make their lending decisions. Certainly, falsehoods abounded, a few of the more prevalent ones being listed here, such as:

"A credit score is the only determining factor when applying for credit." This is not true or we'd all have been in serious trouble at one time or another. Yes, a credit score helps a lender to give quick credit responses by streamlining paperwork. It also works for borrowers with 'in-between' scores, because many lenders are willing to work with them. Lenders are people too, and the good ones know that a number doesn't always provide the entire picture. A loan application lists information such as income, employment history, credit history, and other items. This data, taken together, may convince a lender that, despite the lower-than-average credit score, a borrower might be a worthy credit risk.

"Credit scores are discriminatory and biased." That's simply incorrect. The federal Equal Credit Opportunity Act was put in place so that lenders could not potentially discriminate against borrowers. A credit score doesn't reflect anything that would suggest race, age or religious beliefs. Nor does it consider marital status, gender or other personal information. People are not grouped according to income levels; poorer borrowers are not distinguished from other borrowers in the pool of applicants. The afore-mentioned law makes it illegal to extend or deny credit based on any of these factors. A credit score is, in fact, fairer than the system that was in place before credit-scoring models were instituted. Just think about it for a moment – if you decide to use an automated loan service, it will, of course, pull your credit score. If your score happens to be 450 you will be denied. What's more, anyone who has a score of 450 will be denied. That score suggests that your repayment of loans is less than favorable – nothing more – and it will treat all such applicants the same way. It's therefore a false assumption that your credit score includes information that will bias a lender against you. The score is a reflection of many different things, none of which lenders will even see unless they request a copy of your full credit report. The number of your score is truly faceless.

"A bad credit score will never change." It may seem that way at times, but this could not be further from the truth. Most bad entries on a credit report will disappear after seven years (bankruptcies are subject to a ten-year minimum stint on your report). But even before those items are dropped, a lender may use your more recent payment history as the basis for extending you credit. So, yes, credit scores do change over time. And with a little diligent effort, you can improve your score with relative quickness.

Your credit report determines your credit score

The information contained in your credit report is used to arrive at your credit score. In times gone by, these reports weren't always very nice. In the early days of credit reporting agencies, only bad credit items were reported and recorded, such as testimonials from people who knew you that may or may not have felt very favorably towards you. Also included were employment, insurance and driving-record information. Any good items were totally ignored. All this negative information added up to was a plethora of biased loans.

Credit reports today, however, are quite different. Fortunately for us, good entries are now also included, along with other types of information. Some of this information is for identification purposes only, but the majority of what's recorded in the file is for the purpose of satisfying the needs of the credit-score algorithms. The format may differ from reporting agency to reporting agency, but the information is fairly consistent.

The information that comprises your credit report includes:

  • Your credit history – This section includes all of the credit accounts you've had in the last seven- to ten years or longer, including mortgages and car loans. Accounts that have since closed are also included in the report. On-time as well as late payments for the period since the account was opened are listed here, as well.
  • Personal information – This information is provided for the purpose of uniquely and correctly identifying you. It includes your name, Social Security number, date of birth, address, telephone number and current employer.
  • Inquiries – Inquiries included here are those requests to view your report made by lenders and others whom you've given permission to access the information. Even if you aren't approved for credit or don't use that particular lender, their inquiry will still be registered on your credit report.
  • Dispute statements – If you disagree with something that's recorded in your credit file, you're allowed to make a statement that will be permanently added to your credit report. Even if the dispute is found by the credit company to be unfounded, this statement (limited to 100 words or less) can be used to express your point of view or extenuating circumstances about the situation.
  • Public records – Bankruptcies, repossessions, liens and judgments filed against you are listed in this section.

What does your credit report mean?

Your credit report can indicate a number of different things to a potential lender. The biggest item that lenders look at is late or missed payments. Late payments mean that the payment was made after a grace period of typically 30 days. Some lenders will let payments go as many as 120 days past due before reporting the delinquency to an outside agency. However, any payments that are frequently overdue will automatically send up a warning flag to creditors. If the late payments are part of the individual's recent credit history, it's even more of a concern because the person is applying for new credit.

Open credit accounts are also a thing that lenders watch for. You might think that it would be good to have accounts listed which have not been charged off or closed by a lender for late payments, and that's generally true. But too many new open accounts could signal that a borrower is creating a potentially poor financial situation. The lender may see you as becoming desperate for credit because of insufficient cash flow. In such a case, how will you make payments on all of the open accounts? As far as the lender is concerned, adding another account to the mix would simply not be a very wise business move.

Excessive inquiries can be an indicator of poor financial judgment. A certain number of inquiries are fine. For instance, you may be working with lenders for a home loan or shopping for a new car. However, too many differing types of inquiries in a short span of time can be seen by a lender as desperation on the part of the borrower.

Credit cards that are paid on time are good. Credit cards that are paid but are charged up to their limit are not so good. Lenders will wonder why the balance remains so high, and is not paid down. They will also see that as you make payments, new charges bring the card back up to its limit, leaving you with no cushion if all the credit is used up. This says to the potential lender that there's no money to repay their loan.

Shortcomings of your credit report

While credit reports do help to create our credit score, they can also hurt us. The information that's reported to the credit repositories is taken by them at face value; in other words, it is not checked for errors. If the information is reported with mistakes, those mistakes will remain on your credit report until you discover them. Those errors can cost you points on your credit score and cause you to pay more for your loan. It's important to check for such discrepancies and contact the reporting agency to correct or dispute the information as soon as you become aware of it.

Your credit report and score affects loans and interest rates

Your credit report is used to determine your credit score. Your credit score, in turn, is used to determine your eligibility for loans. A lender may outright deny your application for credit based on your credit score. This happens to thousands of people who have scores that rank on the lower side of the credit scale.

But, let's say that you do get approved for a home mortgage or car loan. The actual price of the house or car may be the same as it is for a person whose score is on the higher end of the scoring field. The difference makes itself known when the interest rate is applied to the loans. The person with the higher credit score represents a smaller credit risk to the lender; thus, they're interest rate would be lower. On the other hand, the interest rate on your identical loan would be higher because of your lower credit score (and thereby greater credit risk to the lender); which, of course, would mean higher monthly payments and overall loan cost for you.

Borrowing money means higher interest rates for those with lower credit scores. Lenders don't use scores all by themselves, but if your credit report rightly reflects a poor payment history on several credit lines, it will be difficult for a lender to give you a loan with confidence, much less one with a lower interest rate. So, do your utmost to keep your credit report and score healthy. You'll save money in both the short- and long runs.



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