Credit rating: what's that?

These days you will here the phrase 'credit rating' being thrown around more than a cricket ball at the MCG.

You'll hear it on the radio and see it on TV, but to a lot of people those two words don't mean a thing. What is a credit rating and how does it apply to you?

In its most simple definition, a credit rating is an ongoing evaluation file of a person's credit history, which illustrates the likelihood of that person's ability to make repayments on future credit debts.

Credit reporting agencies compile this information as soon as you start using credit (in the form of credit cards or other forms of loans) and supply this information to loan providers. This information may include a list of current and past credit accounts and their balances, your payment history, employment and personal information, and a history of past credit problems.

To put this into a real life situation, when you apply for a personal loan at a bank they will contact a credit-reporting bureau and check your credit file. This way they can safeguard their investment in you and make sure that they are going to get their money back through your repayments.

So if you have a credit file (whether it be good or bad) a loan provider will use this as their basis as to whether or not to accept your loan application. If you have a bad credit file it can affect you in a number of ways. But how is it that you end up with a bad credit file in the first place?

Late payments

Well there are a number of ways that people can give themselves black marks on their credit file. One of the most obvious is by making late repayments on a debt, or skipping them altogether. Payment histories make up a fair chunk of your credit file and there is no guide to demonstrate how loan providers should interpret it. Therefore it is crucial that you keep on top of your payments and keep your file squeaky clean.

Exceeding your credit limits

Like late payments, both reaching and exceeding your credit limits will greatly affect your credit file. This is sometimes referred to as 'maxing-out' your credit. As a credit consumer you need to keep an eye on your limit, as exceeding it can often be a more powerful demonstration of credit delinquency than any other aspect of a bad credit file.

Declaring bankruptcy

While it is best to steer clear of bankruptcy, in some cases it can be the only option. A persons financial situation can get so out of control that there is just no way that they can get out of debt, with the last resort - bankruptcy, being the only solution available. This is an extreme solution with devastating effects; one being that it will remain on a credit file for up to seven years.

Tax liens

Another cause of negative credit reports is tax liens as a result of unpaid taxes. Like credit ratings, this is something that people bypass due to being misinformed. A tax lien is the government's ability to legally claim the property of a tax-payer (or non tax-payer as the case may be) to secure the payment of a debt or the satisfaction of an obligation.

As it is a last-resort form of debt collection it will be recorded on your credit file for a number of years, having an adverse affect on your future financial plans.

Identity theft

Identity theft is legally defined as the deliberate assumption of another person's identity. Many people do not realise they have fallen prey to this crime until they apply for a large loan such as a mortgage or car loan

With information like Driver's License numbers, account and other personal information, these heartless characters apply for mortgages and credit cards, buy cars, or withdraw savings. Some may even go as far as committing crimes under a false name.

It is for this very reason that you should keep a tab on your credit file. If you think that you have become a victim of identity theft, it is important to contact your credit provider immediately so the situation can be remedied and you are not left with a bad credit report.

Errors in your credit report

Unfortunately for all the credit consumers out there, it is possible for credit reports to have errors. This is most often caused by omissions from credit providers. Policies regarding credit reporting only state that the information must be accurate, which means that they are not required to make updates on credit information they provide.

If a credit providers reports late or missed payments they are in no way required to update it when you make the payment. So again, it pays to keep an eye on your credit report so you don't suffer in the long run.

The way we are constantly watched by credit reporting agencies, it may feel as if you're a contestant on some crazy financial Big Brother show. Sadly it is unavoidable, but with a responsible attitude towards credit consumption and regular checks on your credit file, you should have nothing to worry about!

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