How Your Credit Score Affects The Cost Of Borrowing

How Your Credit Score Affects The Cost Of Borrowing

If you want the best possible rates when applying for credit cards and loans you need a good credit score. Furthermore, you need to keep it that way. I’m going to explain why.

How lenders make their decision

Banks, loan providers and credit card companies use a variety of different ways to credit check you, some being more stringent than others. Once they have checked out your credentials they make a decision on whether they will lend to you or not, and determine what interest rate they will offer you.

You credit score can be based on information such as:

  • What information you provide on your application form
  • What the lender already knows about you from previous accounts you’ve had with them
  • Your credit report, which is held by one of the credit reference agencies – Callcredit, Equifax and Experian

You’ll have a greater score if you:

  • Are a homeowner or have lived at the same address for over a year
  • You have registered yourself on the electoral role
  • Have demonstrated you’re a sensible borrower with other credit agreements and pay your bills on time such as your gas and electric bills
  • You’ve shown stability – For instance being employed rather than self employed, have had the same bank account, lived at the same address and been in the same job for a long time
  • You do not hold any credit accounts jointly with anybody with a poor credit score and history

How a poor credit score has an impact on your ability to borrow

If you have a poor credit score it can mean you are charged a higher interest rate by lenders, given a smaller credit limit or are rejected at application.

A lender is not obliged to offer you the interest rate they have advertised or that you see on comparison websites. This is known as representative APR and it only has to be offered to just over 51% of applicants for that particular product. You may well be offered a rate that is higher – this is called your personal APR. Always check  carefully what your personal APR is and make your decision accordingly. If it is a high rate make sure you clear the outstanding balance regularly to ensure you do not rack up unnecessary interest charges that you could struggle to pay back.

Can my credit score also affect my existing rate of interest?

Unfortunately the simple answer is yes. Lenders regularly review their customers credit scores and not just at the point of application,  this is known as ‘rate-for-risk pricing policies’. Effectively this means that if you should fall into a certain group based on your credit score, and your lender decides that new group is a higher risk than when you had previously applied, they will put up the interest you pay.

You could have been a great customer for years and always paid on time and all of a sudden your interest rate is hiked up. This is why it is important to maintain a good credit score even if you have no interest in borrowing any more money.

Have you ever had your interest rate increased by your lender?

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Thinking Thrifty

David Jack Taylor is the founder and editor of the Thinking Thrifty blog. After a striking realisation about the direction his life was heading he set himself a 15 year plan to achieve total financial freedom. Join the journey!

He is also a contributor to Clear Debt, ICOUNT Money and M1 Debt Advice blogs discussing all things personal finance.
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