BadCreditLoans.org

A Consumer's Guide to Mastering Money

The importance of personal finances is often underestimated, and that can be a costly mistake. A person’s financial profile affects just about every aspect of their life, including: obtaining employment; renting or purchasing real estate; participating in volunteer work; obtaining student loans; purchasing automobile insurance; and, the most obvious, being granted approval for any form of financing. Not only does a consumer’s debt profile & history affect their ability to obtain goods and services, it also determines the price of those products.

Simply stated, people with “good” to “excellent” credit pay less for the same goods and services as do people with “bad” scores. Therefore, it’s worthwhile to learn about personal creditworthiness, including what constitutes good vs bad; how people get into trouble and develop bad credit; what tools are available to help with finances when someone has a bad score; and how to turn a poor financial profile into good credit.

Who Has a Bad Credit Score?

There is a myth that people with bad credit are poor; unemployed or under-employed; struggle to meet the basic necessities of life, such as paying for food, shelter, and medical care. These mythical people can’t manage money, don’t understand the basic concepts of money management, or just don’t care about paying their financial obligations in a timely manner.

In all likelihood, many people do fit that profile, but it’s equally likely that many do not. On paper, people who struggle with personal finances won’t all look the same. Some consumers with financial management issues have steady employment with high salaries, drive nice cars, live in beautiful homes, own boats, enjoy expensive vacations, but they, too, have a poor score. The truth is it can happen to anyone, especially people with healthcare issues. Even millionaires have money troubles; earning money and managing it wisely are two very different skills. Many NFL stars are broke within 5 years of leaving the game.

On one end of the spectrum are people with bad credit who don’t have enough money to make it from paycheck to paycheck. These consumers believe they have no alternative but to use financing to supplement their income. In doing so, they can get stuck in a vicious cycle of borrowing money, over extending themselves, continuously struggling just to payback the interest on their loans. There are many financial products with exorbitant fees and high interest rates that make repayment extremely difficult and expensive. Or, many consumers can become victims of scams or other too-good-to-be-true offers in desperate attempts to solve their money troubles, only to be taken advantage of by unscrupulous companies that target this vulnerable sector of the population.

On the other end of the spectrum are people who buy into the American consumer dream to have more, get more, buy, buy, and buy. And if they can’t afford it, they find a way to finance it, or they charge it on their card. In an ever increasing stack of bills and financial obligations, many people find themselves working to pay off their debt, rather than enjoying life, putting money aside for pleasurable activities, starting a college fund for their children, or saving for retirement.

Consumers in both of these scenarios find themselves in the same place: they have poor credit. In both situations, people develop the same problem, their finances spin out of control and they suffer, both financial and emotionally. There can be few greater stresses in life than monetary woes; not having enough money to meet life’s financial obligations can be extremely stressful. People can lose their homes, relationships suffer, and families can break apart all due to poor money management. Poor financial management over time leads to a bad credit history and a low score, marking an individual as a finacial risk to lenders.

There is a positive in all of this: anyone can repair their financial profile. It does take time, energy, and self-discipline, but it can be done. In order to do that, it’s important to gain a better understanding of various aspects of personal finances. A savvy consumer can make better choices. However, the first step for an individual to take toward gaining control of personal finances is to know what’s in their own profile. That can be done by reviewing their reports and obtaining their FICO score.

What Are Credit Scores?

Credit rating agencies, also called credit bureaus or consumer reporting agencies, are for-profit companies that maintain information to produce financial reports and calculate scores for nearly every adult in the United States. There are three main agencies in the United States that dominate the market: TransUnion, Equifax, and Experion.

Bureaus collect information about consumers’ financial activity, compile that information into a report, calculate a score, and then sell that information to banks, mortgage lenders, department stores, car financing companies, employers, and any other entity who is enquiring about an applicant’s background. Although reporting agencies collect consumer data, they do not directly make any financial decisions. Rather, creditors use the reports and scores created by the bureaus, to supplement information provided by applicants, to make decisions about providing auto loans, approving and pricing insurance, renting or mortgage lending for housing, hiring, issuing charge cards, and other purposes.

There are many components to a person’s financial life captured in their report. A person’s financial history is important because it determines if they can borrow money and if so, what they will have to pay for it and how quickly they will need to repay it. This means the monthly mortgage payment a person makes is directly related to their score, as is their monthly charge card payment, and their auto insurance premium, and other loans and payments.

A person’s profile is an indicator to lenders, also called creditors, of how high a risk they are in terms of the likelihood that they will repay the money they borrow within the terms of the agreement. Meaning, will they pay on time. If an installment loan requires a monthly payment, but the borrower only pays every other month, that hurts their profile, even if at the end of the year they paid the same amount they would have paid if they had paid on time. What’s important is paying on time and reports give lenders a clue about whether or not the applicant is likely to live up to the terms of the agreement. A person’s history demonstrates their behavior. Therefore, lenders use scoring data to learn about applicants financial lives and assess their creditworthiness in combination with other factors.

In combination with historical data, lenders often use what is called “The Three Cs of Credit” when evaluating the creditworthiness of applicants. The three Cs are: character, capacity, and collateral (some use the word capital instead of collateral.)

The Three Cs

The first C, character as indicated by FICO score, indicates the likelihood that the borrower will repay the money. A solid history of repayment, along with stable employment and residence all factor into their assessment of whether or not you are likely to repay the debt. In essence, they are evaluating your personal integrity as it relates to repaying borrowed money.

The second C is capacity to pay. Lenders assess whether or not borrowers have the capacity or ability to take on more debt and still make all of their payments on time based. This is based on the amount of debt they currently carry and their income sources.

The third C is collateral, which is the amount of valuable assets that the borrower owns. This is important to the lender because they want to know there is something they can take to satisfy the debt if the borrower refuses or cannot repay the loan. For example, collateral for a mortgage is the home itself, this is called a secured loan. If you default, the bank takes the house, regardless of other creditors to whom you owe money.

Other collateral might be automobiles, boats, jewelry, television sets, other expensive electronics, etc. If the loan is secured, the lender takes the collateral with which the loan was secured, for example a car loan is secured with the car. If a buy defaults, the lender can take the car. With unsecured debt, no specific asset is tied to the loan, so the lender wants to know what you own so they can get it through the legal process if you default. It all depends on where they are in line – they look at your report to see if some other lender is using those assets to secure their loan or if you have other creditors that are ahead of them, meaning you incurred that debt first. These all factor into lending and pricing decisions. Secured or unsecured loan have different prices because they represent different degrees of risk to the lender.

This is the big picture of what lenders want to learn about an applicant before they make a decision to lend them money. How do they make these determinations? What tools do they use? Lenders use information applicants provide to them, including their employment history, income information, residential history, banking account information, and public records. Much of this information can be found in credt reports, along with bill paying activity and facts about an individual’s financial life. Therefore, lenders heavily leverage these convenient reports.

What’s in a Credit Report?

Credit file disclosures, more commonly referred to as credit reports or credit files, are records of individuals’ personal financial histories. They may include their first charge card, to their college student loan, to their mortgage, and any other type of financial transaction that involved borrowing money, depending on the timing of those transactions in relation to the date of the report. It’s important to note that any loan for which an individual co-signs will appear on their report and factor into their profile.

Reports also contain personal information, such as name; social security number; past and present addresses; employer; public records, such as evictions, child support orders, lawsuits and judgments, tax liens, or other types of liens from court and public records; all open accounts and their current balances; loan limits; delinquencies; bankruptcies; and other financing related activity. Reports do not include information on an individual’s race; religion; personal lifestyle; political preference; or any other information unrelated to their financial history.

The report is broken out into various sections, each one providing useful information about an individual’s history, starting with the summary.

Credit Summary

The summary provides an overview of ongoing financial activity. The summary is an at-a-glance picture of an individual’s history, highlighting account activity by categorizing it into buckets by account type: mortgages, revolving, installment, and other categories of loans and shows the balance, available balance, monetary limit, debt to limit ratio, monthly payment amount and the number of accounts, with a balance for each category. Each of these is summed for a total number of open accounts, total outstanding balances, total debt to limit ratio, total monthly payments, and total accounts with a balance. The table below gives an example of a summary from the style used by one of the three major bureaus.

Open Accounts Total Number Balance Available Limit Debt to Limit Ratio Monthly Payment Amount Accounts with a Balance
Mortgage 1 $180,000 $0 $210,000 86% $1,550 1
Installment 2 $25,000 N/A N/A N/A $760 2
Revolving 10 $22,000 $8,000 $30,000 73% $750 10
Other 1 $8,230 $770 $9,000 91% $110 1
Total 14 $235,230 $8,770 $249,000 93% $3,170 14

Looking at the summary, it is easy to determine that quickly if the individual is highly leveraged (meaning they have a high debt ratio), or if they are in a more conservative financial position. The individual owning the above profile would be considered highly leveraged and, therefore, viewed as a high risk. However, there are other components of the report creditors review before making a decision. The following is an overview of each section.

Account Information

In addition to the summary, reports include detailed information about every account that has had activity within approximately the past seven years, such as: the name of the lender; the date the account was opened; the opening balance; the current balance; the limit; the amount past due; the last payment; the scheduled payment amount; the type of account; the highest balance held on the account; the type of financing; for example revolving, installment, or mortgage; the current status; and the owner of the account, for example is the individual the sole owner of the account of the co-borrower or co-signer. These details, among others, provide lenders or other interested parties with helpful information when assessing an applicant’s creditworthiness.

Also, the report highlights the account age, meaning it shows the average age of open accounts. The report reflects the average age of open accounts. A high average ages implies stability, while a low average, particularly coupled with several new accounts, can be viewed negatively.

Inquiries

Any inquiries into a person’s financial history made by creditors in the past two years are listed in an individual’s report. Anytime an individual applies for a loan, charge card, or financing, the lender will, with the applicant’s permission, make an inquiry. Multiple inquires typically appear unfavorable to lenders, with the exception of rate shopping. When shopping for an automobile or mortgage, it’s best to do so within a short period of time to make it obvious that the intention is to find the best price, not multiple new loans.

There are also other inquiries on reports that do not factor into a person’s profile. For example, when an individual gives permission to anyone, for any purpose other than to obtain financing such as to be accepted for volunteer work at a hospital, those inquiries will appear on the report and clearly identified as non-creditor inquiries.

Negative Information

All negative, or derogatory, activity will be listed in the negative information section. This includes late payments, collection activity, bankruptcy, and other public records like criminal charges, tax liens, evictions, lawsuits, and other matters of public record. Details of the number of days late for each account will be shown on the report. Late payments, closed accounts, collection activity, and most other negative activity will remain on a report for about seven years; bankruptcy will remain in the record for ten years; lawsuits and unpaid judgments will remain in the report for either seven years or until the statute of limitations expires; criminal conviction may remain on a report indefinitely.

Personal Information

Reports contain the personal information of the individual, including name, address, previous addresses, employer, social security number, and possibly income. They obtain this information from either the individual or from creditors, who get the information from applicants when they apply for loans and complete application form disclosing this information.

Dispute File Information

Disputes the individual filed with the bureau will be listed. Incomplete, inaccurate, or out-of-date information should be removed so it’s up to the individual to review their report and file a dispute to ensure their report is up to date.

When disputes are filed, the reporting bureau will investigate the matter within 30 days and will remove the data if it is proven to be out-of-date, inaccurate, or incomplete. If the information is correct, it will remain on the report.

Summary of Your Rights Under FCRA

This section contains a summary of the federal Fair Credit Reporting Act (FCRA) from the Federal Trade Commission web site Consumer Protection information. The FCRA informs consumers of their rights regarding financial reporting and what is in their personal file. It also provides consumers with resources to contact if they have questions or need help. The basic rights outlined in the FCRA include:

  1. You have the right to know what is in your file
  2. You have the right to ask for your score
  3. You have the right to dispute inaccurate or incomplete information
  4. Consumer reporting agencies must correct or delete inaccurate, incomplete, or unverifiable information
  5. Consumer reporting agencies may not report outdated negative information
  6. Access to your file is limited
  7. You must give your consent for reports to be provided to employers
  8. You may limit "prescreened" offers of credit and insurance you receive based on information in your file
  9. You may seek damages from violators
  10. Identity theft victims and active duty military personnel have additional rights
    For full details concerning consumer rights outlined in the FCRA, click here.

Remedying the Effects of Identity Theft

Identity theft can destroy a person’s profile. A thief only needs to obtain, without consent, someone’s name, social security number, date of birth, or other information about their identity to commit fraud. It’s common for thieves to open credit card accounts or even loans with stolen information.

Consumers have rights under the FCRA when they believe they are the victim of identity theft, including the following:

  1. You have the right to ask that nationwide consumer reporting agencies place “fraud alerts” in your file to let potential creditors and others know that you may be a victim of identity theft
  2. You have the right to free copies of the information in your file (your “file disclosure”)
  3. You have the right to obtain documents relating to fraudulent transactions made or accounts opened using your personal information
  4. You have the right to obtain information from a debt collector
  5. If you believe information in your file results from identity theft, you have the right to ask that a consumer reporting agency block that information from your file
  6. You also may prevent businesses from reporting information about you to consumer reporting agencies if you believe the information is a result of identity theft

For more details and to learn more about identify theft, visit www.ftc.gov/idtheft.

Your Rights Under State Law

This section will outline laws specific to the state where the individual currently resides. For example, Florida consumers “have a right to place a "security freeze" on your consumer report, which will, except as provided by law, prohibit a consumer reporting agency from releasing any information in your consumer report without your express authorization.”

The contents, format, order of reports vary depending on the bureau that created the report, but the basic information is the same. Reports from different bureaus may contain slightly different information because the sources of information may not report to each bureau, or the variance may be due to a timing issue. It’s a good idea for an individual or creditor to check more than one report to ensure they capture all activity and see the full financial history.

How to Obtain Your Report

At any time, consumers can request their report from any of the three major bureaus, either for free or for a small fee. By law, every individual is entitled to one free report from each of the three main agencies, Equifax, TransUnion, and Experion, every 12 months.

There is only one site authorized to provide free financial reports under the FCRA, and it was created in collaboration by these three bureaus reports: AnnualCreditReport.com. Consumers should be cautious that they are ordering reports from the correct web site. There are many imposter web sites that attempt to lure unsuspecting consumers to their site and end up charging them for reports (sometimes using recurring billing), steal their information, or sell them services they don’t need or never receive.

Reports from AnnualCreditReport.com are free once every 12 months, as prescribed by the FCRA, but there are situations where consumers are entitled to either a free report, score, or both, as outline by the FCRA.

  1. Under federal law, consumers are entitled to a free report if a company takes adverse action against them, such as denying an application for financing, insurance, or employment, and the consumer asks for their report within 60 days of receiving notice of the action.
  2. Consumers are entitled to one free report a year if they are unemployed and plan to look for a job within 60 days; if they are on welfare; or if their report is inaccurate because of fraud, including identity theFor more information, click here.
    To purchase a report, score or other related information & services, contact any or all of the three main bureaus listed below:

It’s a good idea for consumers to review their reports annually, at a minimum. With three free reports, consumers can either order all three at once, or order one every four months throughout the year to monitor their activity and ensure their report contains accurate information. It’s also a good idea to track inquiries and watch out for the possibility of signs of possible identity theft. When obtaining your free reports, be aware that it is easy to sign up for a recurring fee with some of the reporting services, so check your statements to ensure you are not being billed on an ongoing basis.

Although reports contain a large quantity of information, one important piece of data it does not include is the credit score. However, the score is derived from all the data compiled in the report, and it is just as important for consumers to understand how their score affects their financial life.

Know Your Score

While a report is a compilation of information derived from many sources that is used to create a history of an individual’s financial experience, it is also the data that is used to calculate a numerical summary of their financial activity, called a credit score. The score can be used alone to make a quick lending decision. Alternately, the score can be one piece of information used in combination with several other factors that together, are reviewed by lenders or other decision-makers when evaluating an individual’s profile. The score, however, is a powerful tool for lenders to use to make decisions.

From the lender’s perspective, the higher the score, the better because high scores indicates a higher level of creditworthiness of the applicant than someone with a lower score. From the applicant’s point of view, the higher the better because the higher score has a direct impact on pricing and lending terms. Borrowers with higher scores are offered more favorable rates and terms than applicants with lower scores. That means they will obtain financing with lower interest rates, which translates to lower monthly payments and less money out of pocket.

It sounds straightforward. The score is simply a rating that lenders use to assess an individual’s creditworthiness, and also price the product or service being sold. The rating is based on information in the report. Since everyone has a report, it should be simple. However, the calculation of a score is anything but simple. There are different calculation methods out there and some are widely used, while others are used exclusively by the companies that developed them.

Furthermore, companies can use scores in combination with other types of scores, and apply various approaches to calculating scores for different types of loans. In theory, different types of loan products have varying risks associated with them, compare cash advances to a mortgage. One is what is called unsecured debt and the other is secured debt. Unsecured debt means there is no collateral, or specific asset, that the lender can obtain to satisfy the outstanding balance if the borrower defaults on the loan. With a secured loan, the lender can take the asset and liquidate it to get its money back. For example, if someone defaults on a mortgage, the bank can foreclose and then sell the home, or if a lender offers money to purchase of a car and the borrower can’t repay the loan, the lender can repossess the car. Each type of loan could have a different risk projection and therefore its own score calculation.

However, regardless of the type of score used, the similarity between all of them is that the score is used as a quick method by which lenders decide whether or not to extend financing to an applicant for a loan, or other type of financing. Or, it is used as one of several pieces of information that together, creates a picture of an individual’s history and is viewed as an indicator of their creditworthiness.

The score reflects a person’s financial history, so lenders use it as a guide to determine the likelihood that the applicant will repay the debt according to the terms of the agreement. Therefore, the score is very important in a person’s financial life, making not only repayment of debts, but also timely and accurate payments, a priority.

How Are Scores Calculated?

There are several factors that are used to develop scores, including the entire collection of financial activities and information that make up a person’s financial report. The number of accounts a person has, the outstanding balances, repayment performance, collection actions against the borrower, and other data are all taken into consideration. People are rated by comparison to a large group of other consumers with a similar profile, so the score is relative to other borrowers’ history. These are combined with mathematical algorithms and loan product specifics to arrive at a score. The score is not static; rather, it changes continuously based on many factors, such as the individual consumer’s financial activity, the experience of other consumers, changes in lending practices, relevant economic factors, and other contributing components.

The score is a complex calculation that can be formulated in different ways, with varrying score ranges, based on the method used. For example, a popular score is the FICO. The FICO scoring method was created by the Fair Isaac Corporation and is widely used. The FICO method is based on a formula that assigns weights to specific types, or categories, of financial activities. There are five main categories: payment history, representing 35%; amounts owed, representing 30%; length of financing history, representing 15%; and finally new financing, and types of financing, which are 10% each. For more details, click here.

The five categories of data used to calculate the FICO score are detailed in the following:

1. Payment History - 35%

Payment history information includes several financial experiences, including the timeliness of payments for each different type of mortgage, installment, revolving or other loan types, such as personal loan, store cards, or automobile loans. Additionally, delinquencies are reflected in the payment history, so if any late payments have been made, they will be reflected on the report and factor into the calculation of the score. The number of days late, the number of late payments, how recent the delinquencies are also factored into the payment history. Any public records such as bankruptcy, judgments, lawsuits, liens, wage garnishments, collection accounts will also be in this section of the report and factor into the score calculation.

A more positive payment history will also be reflected for each type of financing as being paid as agreed. If there are no wage garnishments, no public records, and no collection accounts, the score will of course be higher than if that activity were present in the history. Simply put, paying on-time increases the score.

When the consumer has many recent late payments, particularly when they have most or all financing in one type, such as all charge card accounts, their score will suffer. Furthermore, collection activity, and lender-closed accounts due to excessive payment or non-payment, and other derogatory items in the payment history, will damage the consumer’s score.

Since the payment history makes up the largest portion of the score, it is extremely important to make timely payments. It is also important to balance the number and types of financial products to ensure an overall positive financial profile. Most importantly, consumers will benefit greatly if they manage their debt so that they can comfortably afford to pay at least the minimum monthly amounts due. It is wise for consumers to understand their own financial picture and the totality of their obligations to make intelligent decisions and avoid activity that will lead them down the path of bad crediworthinesst. Avoiding late payments is a must to maintain a good profile and a higher score.

2. Amounts Owed - 30%

The score is not based on the total amount a consumer owes, as reflected on the report. Rather, the score calculation takes into consideration all of the pieces of debt and analyzes them based on the type of loan, the amount originally extended, the length of time the account has been open, the current balance owed, and the number of accounts that have a current balance owed.

One such comparison involves obtaining the percentage of current outstanding balance of various loan types to the original available balance or, for revolving loans, to the limit. If there are high limits on the accounts with low balances owed, the consumer will get more points. Conversely, if the consumer has the same limits but with higher amounts owed, or lower limits with balances owed, they will get fewer points. Basically, if a consumer has only utilized a small portion of financing available to them, their score will be higher. Also, creditors view that more favorably than a consumer who has used most or all of the financing available to them.

Basically, the score takes into consideration what amount of lending is available to the borrower, the form of each type of account such as store cards, mortgage, personal loan, automobile, and how much financing the lenders granted, how much the borrower has used, and how much has been paid off.

Additionally, the timing of debt acquisition is also a consideration. If a borrower has established their outstanding debt over a period of time, such as beginning with one charge card and a student loan, and progressed to a car loan, then a mortgage, and established a positive payment history, the score will be higher than someone who recently opened numerous store cards, financed a car purchased, and bought a house in a short period of time. The person with the newer debt acquisition has not had time to prove their creditworthiness compared to the person who has built a strong profile over time, so their score will be lower.

3. Length of Credit History - 15%

The length of financial history refers to the length of time an individual has had open accounts, which provides a snapshot of a person’s financial life. If a consumer has held the same charge card accounts, the same mortgage, and other accounts for a long period of time compared to another consumer who has only recently open accounts, they will get more points. Generally, the longer the history, the higher the score will. A longer history suggests stability. Consumers with long, favorable histories are thought to be more likely to repay their financial obligations, within the terms of the agreement, than consumers with a more recent history.

4. New Credit - 10%

Creditors view long-term, established loans more favorably than recently opened accounts added in recent history. However, the types and amounts of new lending is considered as well as the payment activity. For example, if a consumer had payment problems in the past, the score takes into consideration if the consumer has established new financing and demonstrated positive payment patterns. This will earn points and increase the score. Alternately, opening one, a few, or several new accounts and making late payments will produce a lower score.

Also worth noting is how inquiries factor into the score. There are two types of inquires on the report. One type of inquiry is from creditors and other entities that are reviewing a consumer’s report regarding a financial transaction. These types of inquiries factor into the score. The other type of inquiry, such as an employer checking an applicant’s report, or a routine report check by a bank with whom the consumer has a relationship, will not factor into the score.

For the inquiries that are factored into the score, what is also recorded is the disposition of the inquiry. In other words, if a consumer applies for financing and is denied, that has a negative effect on their score.

Some activity that is also factored into the score include applying for new financing when the consumer has had problems making timely payments. Also, numerous inquiries related to applications financing are also a part of the scoring process. However, in some situations, it’s not out of the ordinary for a consumer to have multiple financial inquiries. For example, if an individual is shopping for a car loan or mortgage, that would be viewed differently than multiple charge card applications, as long as it’s in a short period of time, commonly within 30 days. That’s a reasonable amount of time for a person with strong profile to secure a loan if they are viewed as creditworthy.

It’s important to know that every time an individual gives approval for their report to be viewed, it is recorded in their file, and that activity affects their score.

5. Types of Credit Used - 10%

The mix of accounts is also used to determine the score. The types of financing used refers to the portfolio of debt the consumer has, by category. For example, if the individual has a balance of different types of accounts like charge cards (revolving), mortgage, and car loan (installment), that’s positive and will receive more points. Conversely, if all of the consumer’s debt is in the charge card category, that will lower the score.

There are some people who don’t have debt of any kind. They hold no charge cards, no mortgage, not even an automobile loan. Initially, it might seem like they would be more creditworthy, but that’s not necessarily the case. Lenders want to loan money to people who are more likely to repay that money. Equally important, they want to loan money to borrowers who will repay the money in a timely manner, according to the terms of the agreement. If a person has no financial history or experience, they would have a lower score simply because they have not demonstrated their ability to repay amounts owed.

The FICO scoring method uses the financial information on the report to calculate the score. What is does not take factor in is information about employment history, income, or if an individual is in financial counseling. However, other types of scoring methods do. Even if all reporting agencies used FICO, a consumer’s score could be slightly different. At one point in time, each bureau may not have the same information based on the time of lender reports, and other factors.

Credit Score Values

The FICO scoring system uses a range from 300 to 850, and the higher the score, the better. The high score indicates to lenders that the individual is a lower risk, meaning they are more creditworthy than someone with a lower score. A high score, or excellent credit, is considered to be over 750. FICO is widely used and familiar, but there is a new scoring method that all three reporting agencies are also using. It’s called VantageScore.

Vantage scores range from 501 to 990, but also have letter “grades” assigned to each range of scores. Here is the breakout:

  • A = 900–990
  • B = 800–899
  • C = 700–799
  • D = 600–699
  • F = 501–599

Since different scores are used for various types of loan products, it can become confusing to understand a person’s score. For example, a 750 using FICO is very good, but only fair, or a “C” using VantageScore. All three of the major bureaus calculate and sell the FICO score, the VantageScore, and their own internal scores. Lenders can request any one of these scores for decision-making. Alternately, lenders can use a combination of scores. It is all dependent on the loan product and the particular situation.

There are also alternatives to these more well-known and traditional scores. An example of an alternative score is Scorelogix’s Job Security Score.

Scorelogix uses a different set of elements to calculate the risk that a consumer will be able to repay a loan. The score is based on forecasting future events, rather than focusing on past behavior. Elements that are part of the calculation of the score include: job stability, income, and economic factors. To learn more about Scorelogix, click here.

What is Not Factored into the Score?

It is equally important to understand what is not factored into the score's calculation, although some of these pieces of data might be taken into consideration when the lender assesses the applicant’s creditworthiness. Under the Equal Credit Opportunity Act (ECOA), a creditor’s scoring system may not use the following characteristics:

  1. Race, religion, country of national origin, sex, marital status. Federal law prohibits scoring agencies from using these personal dimensions in the calculation of scores.
  2. Recipient of public assistance
  3. Made a claim under the Consumer Credit Protection Act
  4. Age
  5. Salary, occupation, title, employer, date employed, employment history
  6. Location of residence
  7. Child support or alimony
  8. Other rates charged by lenders
  9. Rental agreements
  10. Certain types of inquiries, such as the consumer’s own to verify information, unsolicited inquiries from lenders the consumer did not authorize, current lender inquiries to check the status of the consumer’s report, or from employers
  11. Any information not included in the financial report
  12. Information that is not included in the report is not factored into the score
  13. Participation in financial counseling

How to Get a Score

Scores are not part of the report, so they must be ordered separately and purchased. An individual can obtain their score at any time by requesting one from any of the bureaus, for a fee. The prices range from $8 to $20, depending on what is ordered. Scores can be purchased when copies of free annual reports are ordered, or at any time by contacting one of, or all three, reporting agencies:

When purchasing a score, there are several “special” offers for consumers, some offering “free credit scores” that require signing up for services that have a monthly fee. Consumers should be cautious that they don’t buy something they don’t need or want from the bureau, or any other entity. For example, credit monitoring services are common and not necessarily worth the investment.

Under the FCRA, there are times when consumers are entitled to be given their score for free. These include the following:

  • When they have applied for a mortgage
  • When a creditor charges them a higher interest rate
  • When a creditor takes an adverse action against them
  • When they have been denied a loan or insurance due to their score (Wall Street Reform Bill 7/22/10)

Visit CreditScoring.com for more information about scores. To learn more about the FICO score and other related topics, visit MyFico.com.

Scores and Pricing

Lenders not only use the score to approve applications, but also to determine the rates and fees they will charge the applicant based on their score. Typically, the higher the score, the lower the rate and fees charged and the lower the score, the higher the rate and fees.

Lenders not only use scores to determine the interest rate and fees they will charge, they also use them to determine the lending terms they will offer. In addition to the price, terms include the repayment schedule, consisting of when payments are due, such as bi-weekly, monthly, semi-annually; and fees and actions if the borrower makes a late payment, such fees due or will the lender call the loan, meaning the entire amount due immediately.

Also take into consideration all the entities that look at a consumer’s report and make decisions about whether or not to extend financing. These include apartment rentals, a child’s orthodontic work, educational loans, employment, mortgages, charge cards, and auto loans. Since the lower the score, the higher the interest rate, that means the consumer with bad scores will have to pay more for the same goods and services, or be denied those goods and services, compared to consumers with good scores.

For example, on the MyFico website there is a calculator that demonstrates the affect the FICO score has on the cost of a 30 year, $300,000 mortgage. A consumer with a FICO between 760 and 850 might secure a mortgage with an interest rate of 3.738%, which makes the monthly payment $1,387. If the score was between 700 and 759, the interest rate would increase to 3.960% and the monthly payment will then be $1,425. With only a one point variance in the score, from 759 to 760, a consumer would pay $38 a month for their mortgage. Over 30 years, this amounts to less than $14,000.

However, if a consumer had bad score, in the 620 to 639 range, their interest rate would be 5.327% with a commensurate monthly payment of $1,671. The difference between the excellent creditworthiness monthly payment would be $284 a month. This difference in the monthly payment is purely interest, not principal repayment. That is the cost of poor creditworthiness, higher interest rates. The additional interest for the consumer with bad scores in this scenario adds up to over $3,400 a year, and over the 30 years of the loan, the price differential adds up to over $102,000. Therefore, building a good profile makes good financial sense. To learn more how scores affect pricing, visit MyFico.

Access to Reports & Scores

The FCRA, as well as state fair credit reporting laws, regulate who has access to consumers’ reports and what they can do with the information contained in those reports. An individual or entity must have what FCRA refers to as “permissible purpose” to obtain a report for any consumer. Some require the written consent of the consumer when the request for the report is not associated with an application for financing or insurance. Here is an overview of the FCRA permissible purpose guidelines. Consumer reporting agencies may furnish consumer reports:

  1. When they receive a court order or subpoena to do so
  2. When the consumer provides a written request or instructions to the reporting agency to obtain a report or provide a report to a specific individual or entity
  3. To a potential creditor, such as an auto finance company, mortgage lender, or charge card company
  4. To a potential employer, with the consumer’s authorization
  5. To government agencies
  6. To insurance companies in connection with underwriting insurance policies
  7. To collection agencies
  8. Rental agent or potential landlord
  9. Utility companies
  10. Student loan and grant lenders.

The FCRA stipulates that the information must be used for specific, legitimate purposes, such as to make decisions about whether or not to grant lending or other financing or collection related transactions; for employment purposes; in connection with the underwriting of insurance; to determine the eligibility for a license or other benefit granted by a governmental agency; or other legitimate business purpose.

There may be other situations where reporting agencies receive requests for a consumer’s report. They must always abide by the FCRA’s rules and regulations before disclosing any information from a consumer’s profile. Visit the Federal Trade Commission website for more information.

Fixing Bad Credit

Although derogatory, or negative, financial activity is reflected on reports for a long period of time, it’s still possible to begin building a good profile. Some items, like criminal activity, may be in the report indefinitely, but creditors often, depending on the type of financing the consumer is seeking, look at the most recent financial activity to determine how the applicant is paying their financial obligations.

Typically, lenders place heavy emphasis on the past 24 to 48 months of activity. This is true for people with both good and bad scores, so it’s important for everyone to know what’s in their report. Consumers would be wise to vigilantly monitor their report and ensure its accuracy. This is just one element of managing personal finances that helps to develop the strongest profile and highest score possible.

Review Reports Annually

At a minimum, consumers should review their own reports annually to make certain the information they contain is accurate. Since the FCRA requires that consumers be provided with free reports from each of the three main reporting agencies once each year, it doesn’t cost anything to obtain copies.

Many consumers have never looked at their report, so they don’t understand how their financial activity affects their report, and, ultimately, their score. It is a good practice to review all information to ensure there are no errors, and no evidence of identity theft or other criminal activity involving your information. It’s also important for consumers to see who is making inquiries into their history.

If there are errors or evidence of criminal activity, consumers can take action by contacting the reporting bureaus or the Federal Trade Commission for assistance.

Maintain Steady Employment

If an individual has a bad financial history, lenders look closely at those last two years, but not just bill payment activity. They will also look beyond the lending history to determine the applicant’s ability and likelihood to repay. A good indicator to creditors that a consumer is likely to pay is their ability to maintain employment and earn a steady source of income.

Pay Bills On-Time

Paying bills in a timely manner cannot be overemphasized. Late payments reflect poorly on consumers and drive down their scores. Specifically, if a consumer has had past late payment experience, creditors evaluate the most recent payment activity to see if the applicant has been meeting their obligations on-time. Paying bills on-time shows that the consumer is working toward repairing their profile and it is a positive signal to creditors that the individual is making an effort.

It is always a good idea to pay bills on-time because often, particularly with charge cards, late payments have costly penalty fees that really add up. Also, if consumers are late, creditors can raise their interest rates. Therefore, paying bills on-time saves money in the long-term by contributing to a lower score, which helps the consumer obtain lower cost products and services. Additionally, in the short-term, paying financial obligations in a timely manner saves money by avoiding steep late fees and penalties.

Open Deposit Accounts

Creditors will also take into consideration whether or not the applicant has maintained checking and savings accounts for the past two years or longer. These show the lenders that there is an effort toward improving the personal financial situation and it is a sign of stability. Deposit accounts are also a source of repayment of the consumer’s bills. Additionally, it reassures the creditor that there are assets available if the consumer doesn’t make their payments faithfully.

From the lender’s perspective, it’s important to see the applicant making an effort to improve their profile. They must also believe the individual will have the means to repay any loans granted given their existing debt burden, the cost of additional debt, and recent repayment experience. All of this information gives the lender a sense of the borrower’s intention to pay, which means lender’s view the applicant’s history as a reflection of the borrower’s character.

Close Accounts

Consumers would benefit from closing accounts they aren’t using or don’t need if they have too many charge cards. Some may argue that it’s good to have a high available revolving balance. In some situations that may be true. However, if a person has had trouble with using financing irresponsibly in the past, it’s a good idea to remove the temptation by closing the charge card accounts they truly don’t need.

If a consumer closes an account, it is better to close the accounts opened more recently versus closing accounts that the consumer has had open for a long period of time. The older the accounts suggest stability and earn more points for the score calculation, so it is better to close the younger debt first.

Pay-off Debt

A high debt to limit ratio is damaging to a consumer’s score. Therefore, it is beneficial to pay-off debt. This is a simple suggestion for a complex problem many consumers face. It is often the case that people with bad scores have borrowed and charged their way into a financial mess. High interest rates alone make paying down the principle balances nearly impossible, or so it may seem. However, it is feasible for a person who is highly leveraged to improve their financial situation, but it takes patience, commitment, and some careful planning.

Before creating a plan to pay-off debt, consumers should gain an understanding of their total financial picture and prioritize their debt. The highest priority debts are those that must be paid first because not paying them will have serious consequences.

Rent or mortgage payments may be first in line of priority. Being evicted or having the bank foreclose on their home can put a person or family in a dire situation. Clearly, paying for housing is a top priority. Next in line may be the utility bills since water, electricity, and gas are necessities. Car payments are also a priority if the car is used for transportation to and from work. Individuals need to get to work to earn money to pay their bills.

Unpaid taxes can become a problem because the IRS can take a person’s paycheck, the money out of their accounts, their home, or any other property they own. Consumers can negotiate with the IRS to create an installment agreement if they meet certain criteria, such as the taxes owed are less than $10,000; income tax returns have been filed and paid on-time for the past five years; the consumer has no existing installment plan with IRS and has not had an installment arrangement within the past five years; the IRS determines the consumer cannot pay the full amount of tax owed when it is due; the consumer agrees to pay the full amount within three years. Even if the consumer does not meet all of the requirements, the IRS may agree to an installment plan. Visit www.irs.gov for more information.

Next in line would be expenses that consumers can live without, but eliminating these items could create problems in the future. It’s a gamble to drop car, home, and medical insurance, but if a person does not have the money to pay for these expenses right now, they will have to make some difficult choices. A word of caution, some states require automobile insurance so consumers should understand their legal requirements before canceling their policy. Also, mortgage lenders require that borrowers hold a homeowners insurance policy, so that is also a consideration the consumer must consider before they decide to stop making that premium payment.

There are other priority debts that should stand in line before unsecured debt, like student loans. Because they are government loans, if a borrower defaults, they could have their tax return taken an applied to the loan balance.

Finally, charge card debts and other unsecured debts like subscriptions, medical bills, and friends and family members would be paid.

If charge card debt is the problem, then eliminating it first is a good place to start. Charge cards have higher interest rates than other types of debt, so it’s more expensive to carry balances. Personal finance expert Suze Orman suggests eliminating charge card debt by paying off the highest interest rate items first. On her web site, she provides a free calculator to assist consumers with a plan for paying down their debt. To learn more, visit www.suzeorman.com and click on Suze’s Tools, then click on Debt Eliminator to obtain a customized debt elimination plan.

When paying off charge card debt, the most important thing to do is avoid charging up the balances. It’s so easy to pay down the balances and feel a little relief, then go shopping. Or, free up some financing and charge groceries, or other necessities. This will only perpetuate financial troubles. Leave the charge cards at home and use cash.

Be Selective About New Debt

If a person with bad scores manages to pay-off all of their debts, either through careful budgeting and repayment, or by declaring bankruptcy, they should be very selective about opening new accounts. Too many people get into trouble with charge cards because they view them as a way to stretch their income, but they are not a source of income. They are loans and they need to be repaid with interest, and interest rates are high for consumers with bad scores.

Consumers would be wise to start new habits by first only opening one new charge card with the intention of creating a positive history. Charge only amounts that can be repaid within the month to avoid paying interest, while building a positive repayment pattern. It’s sound advice for anyone to charge what they can afford to pay in cash, and then pay off the entire balance each month. For consumers with a bad financial history, following this strategy will, in time, help build a solid history of timely payments.

It would also be wise to avoid other high interest loans and other financial products that may have caused damage to the consumer’s credit in the first place. High interest rate products, such as personal loans, payday loans, auto loans, and other loans charge consumers with bad debt higher fees and interest than consumers with good scores, and it is difficult to catch up once debt starts to mount. It is better to avoid accumulating debt, especially while working toward repairing your score. Paying down debt then adding new debt does not improve scores, and it certainly does not improve an individual’s financial situation.

It would be beneficial for consumers to focus on paying down existing debt, avoid acquiring new debt, and learning sound financial management skills to ensure success in building a good, and eventually, an excellent profile.

Create a Personal Budget

To improve creditworthiness, learning to manage money is essential for success. A very useful tool is a budget. It’s easy to overspend or overextend if someone is unaware of all their financial obligations. Using a budget to capture all income and expenses is extremely helpful. Documenting all expenses is the key to an effective budget. To capture all expenses, people must document every penny they spend, whether it be filling up the gas tank or buying lunch at work. Every dollar matters.

Sometimes it is surprising to learn how much money goes toward non-essential expenditures. Those dollars would be better utilized paying down debt or other essential items. For example, if someone buys lunch every day at work, they may not think they are spending a lot of money if lunch is “only” $7 a day. However, $7 a day adds up to $35 a week, and that adds up to $140 a month. Over the course of a year, someone could spend up to $1,680 on lunch. That money could have been used more advantageously. An alternative could be to take lunch to work, and possibly limit eating out to one day a week.

The benefit of budgeting is awareness. A person can see the financial position they are in more clearly when they document all of their income, expenditures, and financial obligations. In knowing there is power. Budgeting gives the individual power over their finances, and that’s a step on the path toward a good profile.

A great way to start a budget is to journal all expenditures daily to get a realistic perspective of spending. Record all expenses and debts as well and the monthly payment obligations for all debts and compare those to total income. Income is the total amount of cash that a person takes home, net of taxes, not their gross salary or wages. Comparing money coming in with money going out is important and will help an individual stay focused on sticking to the budget. It can be a shocking exercise to match expenses and income together, often people do not put things down on paper, which is part of the reason they get into trouble with finances. When things are written down, they become more real and it is possible to create a plan and move forward.

Downsize

Downsizing, or compromising their current standard of living, might be painful for people, but it could also alleviate some, if not all, of their financial struggles. People can take a step back and assess where they are after creating their budget and truly understanding their financial situation. With a clear picture in mind, they might identify opportunities to cut back and save money. For example, selling their home and choosing to either purchase a smaller, less expensive one, or renting might provide some financial relief. Purchasing a home has costs involved, so renting might be a good solution, at least in the short-term. Renting has its advantages if renters find a situation that meets their needs.

Some of the expenses homeowners pay that renters usually do not include: property taxes; pest control; lawn service; plumbing and other repairs; homeowners insurance; high utility bills; lawn maintenance; and other homeowner expenses. That makes renting a less expense alternative to property ownership.

Another way people can downsize is by selling a newer car with an outstanding loan balance and purchasing an older model with any cash they may receive on the sale. This would eliminate one monthly bill and ensure that the individual has transportation to and from work, as long as they buy a reliable model. The last thing anyone needs is additional expenses for car repairs.

People can think creatively and determine if there are ways to cut back and spend less money. It might hurt a little in the beginning, but in the long-term, it will be a worthwhile sacrifice that will lead to financial stability.

Save Money

Start saving money. It might seem impossible or even foolish to save money with a mountain of debt. However, personal finance experts like Suze Orman recommend that people have a minimum of six months of living expenses in savings. This is a cushion or emergency fund to have on hand in the event a member of the household becomes ill or loses their job.

This money is intended to cover all living expenses in the event of loss of income only. It will take time to save, but when people put away just a little at a time, it adds up. In the unfortunate event this emergency fund is needed, it will help keep cover those expenses and will avoid catastrophic financial consequences. Visit www.suzeorman.com for more tips.

Review Credit Report for Accuracy

Consumers should read their reports on a regular basis to make certain the information they contain is accurate. Mistakes can happen, so it is important to monitor the reports and contact the reporting agencies if there are any questions or concerns about the data they are reporting.

Consumers should be aware of identity theft issues. Identity theft can destroy a person’s financial profile, and it can take years to clean up the mess created by unlawful activity. With the free annual reports made available by the federal FCRA, obtaining reports could not be easier. To obtain reports, visit AnnualCreditReport.com.

Opt Out of Financial Offers

Many consumers don’t know that the reporting agencies sell their information to creditors and insurers when their history meets certain criteria. They legally do have the right to do this if the consumer will receive a “firm offer” from the creditor or insurance company. This is why so many consumers receive unsolicited offers for charge cards, automobile insurance, debt consolidation services, and a myriad of other services that can become a nuisance.

Under the FCRA, consumer can, at any time, opt out of these offers by either calling 888-5-OPTOUT (888-567-8688) or visiting OptOutPrescreen.com. Consumers can opt out for a five year period by calling or visiting the web site. If a consumer prefers to opt out permanently, they need only complete an out-put election form that can be obtained on the web site. Should they later change their mind, they can opt back in for more offers in the future.

Stop Automatic Payments

Automatic payments to creditors, utility companies, and other providers of goods and services can be convenient for consumers when they arrange these payments with either their bank or the recipient of the payment. However, it is better for the consumer to arrange the scheduled payments with their bank, rather than allowing the creditor or merchant to take control of the automatic monthly payment. It is easier for a consumer to contact their bank and cancel the scheduled payment than to cancel an authorized withdrawal from a third party.

It can be frustrating and time-consuming to cancel an automatic payment once authorization is given. Making unnecessary payments will derail a consumer’s efforts to manage money and stick to a budget, it will also divert funds away from more import debts. Consumers should be cautious to whom they allow access to their checking account.

For more information about improving creditworthiness, visit the Federal Trade Commission website.

Important Debt Decisions

Debt Consolidation

If consumers need help and have exhausted all of their resources, debt consolidation might be a viable option. There are some misconceptions about debt consolation. Consumers should gain an understanding of this option before they decide to move forward.

Debt consolidation companies are for-profit entities. Many people mistakenly believe debt consolidation companies offer free services, or believe these organizations are similar to public assistance type or social service organizations, and that could not be farther from the truth. There are many companies offering this service that will take advantage of unwary and uninformed consumers, so it is important to research companies before considering working with them.

What debt consolidation companies do is essentially loan money to consumers to pay-off their debts. The consumer then has only one loan, and therefore only one monthly debt payment. This can be a big improvement if the consumer had multiple outstanding balances, collection agencies calling, and felt pressure and stress from the weight of all the financial obligations. However, debt consolidation companies can charge high interest rates and it can take even longer to pay-off that loan than an effective pay-off plan might have if the consumer had chosen to do it on their own.

Less reputable debt consolidation companies only loan money, they do not offer any counseling or financial planning tools to help the consumer learn how to improve their personal finances and repair their profile. Without a plan for change, education, and tools to help manage money, many consumers will end up right back where they started, in a financial crisis with even more debt.

Some debt consolidation loans are secured, often requiring a borrower’s home or car to be pledged as collateral. The interest charged can range from 10% to 36%, depending on the consumer’s rating and the collateral pledged. Often, the interest rate is not revealed to the borrower until they sign the paperwork, a definite red flag. Consumers should do extensive research and exhaust every option before considering a consolidation loan.

Credit Repair Clinics

Federal law regulates for-profit repair clinics under the Credit Repair Organizations Act (CROA). This regulation is necessary because of extensive abuse of business practices of repair clinics that violate the law and take advantage of unsuspecting consumers. These clinics claim to be able to repair consumers’ creditworthiness, but charge high fees for their services that are unnecessary and do not provide any benefit to the consumer. Fees can run between $250 and $5,000.

Under federal law, a repair clinic cannot collect any money form the consumer until the contracted services are provided, and they must provide consumers with the following information:

  • A written statement of their rights under the FCRA
  • A statement detailing what they can and cannot do
  • A written contract
  • Notice that the consumer can cancel the contract within three days of signing without penalty

Consumers cannot sign away their rights under CROA, even if an unscrupulous repair clinic convinces them to do so.

Repair clinics are not the best option for consumers to use when they need help. They should research other, more reliable and less expensive options.

Bankruptcy

Deciding to file for bankruptcy is an important decision. For a small fee of between $250 and $300, a consumer can discharge either all or the majority of their debt. Consumers can file the paperwork themselves, or they can hire an attorney who is experienced in handling bankruptcy matters. The process must be followed precisely or the court can deny the request, so it is important for consumers to do their research.

Also, there are different kinds of bankruptcy, liquidation and reorganization. Chapter 7 bankruptcy is liquidation and can be filed for either individuals or businesses. Chapter 13 is reorganization for individuals.

In liquidation bankruptcy, consumers ask the court to completely eliminate their debt. Even secured debt can be relieved in some situations. However, bankruptcy does not prevent the creditor from repossessing the collateral that secured the loan. Once the collateral is repossessed, the lender is barred from pursuing further payment form the lender. Bankruptcy does not eliminate child support or alimony obligations; student loans; most tax debts; fines or penalties imposed for violating the law; and a few other items.

While Chapter 13 bankruptcy won’t discharge all of the consumer’s debt, it can stop foreclosure of their home, all the consumer to develop workout plans for paying non-dischargeable debts like child support or student loans, protect the consumer if a co-debtor files Chapter 7, which leaves the consumer liable for the entire debt.

Filing bankruptcy remains on a consumer’s report for ten years and has a profound impact on their financial life. It is a difficult decision. For many, it is a way out of a difficult situation and a chance at a fresh start. For consumers who file bankruptcy, learning financial management skills and working to build better financial habits are essential in order to avoid continued issues with bad credit. To learn more about bankruptcy, visit the bankruptcy court website.

Avoid High Interest Financial Products

According to the Center for Responsible Lending refers to payday loans as “predatory lending” and sites a statistic that twelve million Americans become trapped in a cycle of payday lending at 400% interest every year. Unfortunately, this section of the industry is growing rapidly in spite of an FTC crackdown. Previously, only store front finance companies offered this product. Recently, banks and credit unions have started offering it because it is a highly profitable type of loan.

In theory, the payday loan is a short-term loan, typically of a small amount anywhere from $100 to $1,000. The fee or interest rate is very high, probably one of the most expensive loans sold through legal channels. The fee is so high that it makes repayment extremely difficult. According to the Center for Responsible Lending, the average payday loan borrower used nine loans per year to pay off the first loan. For example, if the borrower’s initial loan was $325, he will pay more than $800 to repay the loan.

These loans go by many names, such as cash advances, check advances, post-dated checks, or deferred deposit loans. Borrowers need only prove they have a checking account and a source of income and they can get a loan. Borrowers either give the lender a post-dated check to receive the amount of the check less the fee, or the borrower can sign authorization for the lender to take money from their account on their payday.

On payday, if the borrower is unable to cover the full amount of the loan, they would need to renew the loan and pay another fee. For example, if the borrower needed $325 in the above example, she would initially receive $275 if the lender’s fee is $50. On payday, the lender would draw $325 from her checking account. If she doesn’t have enough to cover the repayment, she could extend the loan and pay an additional $50 fee, making the total due to the lender $375, when she was only given cash in the amount of $275. This is a vicious cycle many unwary consumers find themselves in and it is difficult to end.

Consumers would be wise to avoid payday loans. Although banks and credit unions offer these loans, they remain exorbitantly expensive and difficult to repay, thus financially damaging to the consumer. For more information, visit the Responsible Lending website.

Credit Cards

According to studies, the average American household has between $10,000 and $15,000 in card debt alone. Compare that figure to ten years ago, when the average household had $7,000 of card debt. That is the average debt a household carries, many Americans are struggling to meet their financial obligations with even higher card balances. It is not surprising when, from an early age, consumers learn that borrowing is a way to buy what they want or need when they do not have the cash on hand.

Young adults, right out of high school, are bombarded with offers and are often unprepared to handle these financial responsibilities. Additionally, many do not have a solid understanding of how to manage money or use money responsibly. Many adults with years of experience managing finances still struggle with making sound financial decisions. This often leads people to high card debt and bad scores.

When consumers have bad scores, financial products are more expensive. Charge cards are no exception, priced based on consumers’ scores, the three main categories are excellent, average, and “rebuilding credit,” which is terminology use by Capital One. Each of the three categories has certain criteria the consumer must meet to be offered a card with perks, fees, and interest rates commensurate with the quality of the consumer’s financial profile. For example, an excellent score card may have no annual fee, cash back options, 0% introductory fee, 12% fee thereafter, and low balance transfer fees.

By comparison, an average score may have no to $39 annual fee, 17% interest, and some perks like lower cash back bonuses. Rebuilding credit may have $29 to $59 annual fees or higher, no cash back or other perks, and up to 25% interest rates of higher.

For high risk individuals, there are secured cards that required the consumer to pay a security deposit and this allows them to charge up to the amount of the deposit. This allows them to rebuild a positive payment history. Prepaid cards are another option, but it is an expensive one because the consumer pays for the privilege of using the card, up to $10 a month or more and it has no positive affect on their score!

There are many offers available, consumers would be wise to research before selecting what could be an expensive option. It’s always good advice to read the fine print when looking into balance transfers as well. Shifting balances from high interest accounts to lower interest ones can be a good idea but only if the terms are favorable. Again, consumers should always read the fine print.

For more information and to learn about card offers, visit MyMoney.gov & Hoffman Brinker.

Auto Loans for Consumers with Bad Credit

Auto loans for high risk borrowers are widely available on the Internet. A person will be guaranteed 100% acceptance or "no credit check." Many companies use ploys to lure unsuspecting consumers, such as company names sound like they are part of a government agency, which implies credibility and trustworthiness.

The marketing strategy for some of these lenders is to advertise on the Internet "Bad Credit? No Problem!" which will draw people with problem financial histories to their web site. Next, the potential borrower can actually select a car directly from the web site. This marketing tactic can begin to create an emotional pull to make the purchase. There is certainly no harm in loving a car; but consumers should be careful not to make an emotional decision that is not a well thought out financial decision.

If it sounds too good to be true, it most likely is. When lenders offer financing without checking creditworthiness, and all the borrower needs is a proof of employment they should be wary. Some offer no interest for a year on used cars. Consumers must read the fine print; no company will provide free financing to high risk borrowers.

Another red flag is if companies don’t clearly display interest rates on their website or answer questions about interest rates when asked. High finance charges are a reality for people with bad scores. The only way for a consumer to avoid high interest rates are to either pay with cash or improve their profile.

If financing a new car is an option, wait for sales at key times in the year, mainly February, August and December. These periods are typically either slow sales times or the dealerships need to make room for new inventory. They often offer great deals like 0% financing.

It may make sense to buy a used car, at least until a consumer can pay down debt and increase their score. Not only will their payments be lower, but their auto insurance will also be lower than it would be for a new car. That is another opportunity to save money.

Personal Loans

Many consumers are in need of money but aren’t eligible for traditional financing, such as a loan for an automobile, a boat, or cash to pay for medical bills. Personal loans can also be money borrowed for items such as an automobile, house, boat, HELOC; something of a personal nature, versus for business use. Loans to a business fall under the category of "commercial loans." In these situations, if consumers opt for a personal loan, they can seek financing with a bank, credit union, or other online lender, store front lender, or traditional banks and credit unions.

Interest rates on personal loans, like other loan products, vary based on the individual’s score and whether or not the loan is secured with collateral.

One network that offers personal loans on the Internet is Prosper. However, Prosper is not available to borrowers in the following states: Iowa, Maine and North Dakota. Prosper offers personal loans with interest rates ranging from 6.59% to 35.84% for poor credit, first time borrowers. With repeated borrowing, a consumer can improve their rating with Prosper and reduce their interest rate.

Another online lender is Kiva. Kiva seeks to create a community of investors who will share the risk and provide loans to people in need. www.kiva.org. Kiva is an alternative to mainstream borrowing and offers lower interest rates. Both Prosper and Kiva are two very interesting business models that offer consumers an option of a personal loan is needed. The philosophy is that lenders earn a respectable return and borrowers can borrow at reasonable rates.

Prosper loans are unsecured, meaning no collateral is required and loan terms are usually 1 - 5. As is typical of most loans, there is a closing fee. The amount of the fee depends upon the "Prosper Rating" which is tied to your score. A Prosper Rating of "AA" is charge a .50% (half of one percent) closing fee, while a "C" Prosper Rating is charged a 4.95% closing fee. If a consumer knows their score, they can use the chart on Prosper’s website to get an estimate of what their interest rate might be, based on their Proper Rating. For example, the chart shows that each person who loaned $100, earned a 7.59% return. The consumer’s cost would be higher to deliver that type of return to the lender. The shorter the term and higher the score, the less expensive the money is to the borrower.

For longer term borrowing with lower scores, Prosper does not offer any relief from high rates. All of the loans that originate through the on-line web platform are made by WebBank, a Utah-chartered Industrial Banks. All loans are then sold and assigned to Propser. Consumers should be cautions before borrowing money through this or any other personal loan lender.

Kiva also offers online borrowing, but has a very different set of lenders and borrowers. Kiva is a non-profit organization with a mission to connect people through lending to alleviate poverty. Kiva has 146 "field partners" who make small loans to impoverished people. The field partners are microfinance institutions, which can be anything from a small non-profit organization to a large bank. Kiva also depends heavily on donations. “With as little as $25 an entity can invest with Kiva to help create an opportunity somewhere around the world." Once a loan is repaid, the investor will receive a Kiva credit. They can then either re-invest in another opportunity, or take their money out.

The micro-financing banks charge about 10% to the borrower or higher, based upon the risk. Kiva was founded in 2005 and has 727,430 lenders with $293 million in loans. The repayment rate is impressive at 98.91%. Kiva is also largely staffed by volunteers and loans money in more than 60 countries throughout the world.

Personal loans also include charge card debt and payday loan advances. Though not as common due to the proliferation of cards availabile, installment loans are also a form of personal loan. Anything a person purchases with debt for personal use is basically a personal loan. Consumers are responsible for the repayment.

Mortgage Loans

When purchasing a house, the lender will enter into a mortgage agreement with the consumer for repayment. The lender could be a bank or a specialty lender that deals specifically with mortgages. A housing lender will secure the debt by using collateral. Collateral reduces the lenders exposure to loss. In the case of purchasing a house, a bank will use the house as collateral for the loan. If the borrower does not pay the bank, under the terms of the mortgage loan agreement, they can repossess the house by placing it in foreclosure, where it is sold to satisfy the amount outstanding.

In some cases the sale of the asset will clear the loan balance; in other cases it may not. Market prices for homes change based upon the economics of supply and demand. The value of your home may drop and the sale of the house may not satisfy the outstanding balance. In this case there may be further financial obligations and consequences. If you purchase an automobile and you don't pay, your automobile may be "repossessed." That means a company will come and load your car onto a trailer and take it from you. Typically the automobile will be sold to try and cover the remaining balance of the debt. The same would apply to a boat or any type of asset that can be resold to satisfy your debt. The same does not necessarily hold true for charge card debt since cards are most often used for consumable items.

The cost to borrow

Most people at some point in their life will enter into a personal loan agreement. The privilege of borrowing money has a price. That price is called "interest." Lenders who have the money, have many options available to them as far as how they can invest the cash they have on hand. They could buy stock, corporate or government bonds, invest in land, gold, etc. They can also lend to consumers creating mortgages and other types of personal loans. Lenders have a process of evaluating each potential borrower's ability to repay. This process is called "underwriting." Underwriters will look at many criteria to determine if a borrower is a good payer, bad payer, slow payer, etc. Underwriters will calculate a "debt ratio" to determine if the applicant has enough income to be able to make a house payment, for example. Underwriters may look at how long the consumer has been in their current job or profession, if they have ever owned a house before, if they have credit cards that you pay, on time, late, or not at all. Your ability to pay and your commitment to pay (are they reliable?) will be assessed. If they are a good payer, then the risk to the lender is lower. If they are a bad or slow payer, then the risk increases. With the increase in risk comes a corresponding increase in interest rates charged to they for their personal loan.

A good way to start off a history is to start small. Select a card that has a 30-day grace period where no interest is charged if it is paid in full within 30-days. Make small purchases that can be paid in full each month. Consumers should never incur interest, but will be creating a positive history. Card holders should treat their card with care. Use them only for two things: 1). to build their financial history and 2). for convenience when they do not have cash on hand or cannot use cash, such as for hotel reservations. Cards are best not used for : 1) large purchases, 2) to increase a consumer's ability to spend 3) to pay another credit card bill. Never carry a card balance. Borrowing from the words of Nancy Reagan - - JUST SAY NO!

If you are making a large purchase (for example a washer and dryer), find a nearby credit union. Credit unions typically offer the lowest interest rates available. Charge card companies can charge as much as 25% (based upon laws in effect). Once a card holder has a balance with a 25% interest rate, it is all but impossible to keep up with the rising balance due to the monthly addition of high interest charges. Big box stores (Lowes, Sears, Home Depot, Rooms to Go) will at time offer interest free purchasing, or interest free for one year. Consumers can also find automakers that will offer low interest rates when purchasing automobiles. Shop around for interest rates, not just the car

Alternatives to High Interest Borrowing

Consumers might consider alternatives to high cost loans before borrowing money. There are several alternatives that will help lower expenses and perhaps reduce other, higher cost and more urgent debts. This is an opportunity to assess expenditures and determine what is absolutely necessary and what can be cut back or eliminated.

Many people have expensive mobile phone plans, like the iPhone. These plans can start at about $100 a month. Other services like Sprint, Virgin Mobile, or Metro PCS offer less expensive plans. Of course, consumers would have to give up some of the more sophisticated functionality, but some small sacrifices can add up to big savings. Subsidized phones typically come with a significantly larger subscription price tag. While an iPhone might cost $600 new, it is still cheaper to pay that upfront & get a $30 per month plan than it is to pay an extra $70 per month for multiple years.

Sometimes, people find themselves in situations where they need to ask for help. It’s not a comfortable place to be, but there are organizations that are willing to lend a hand. Church groups, for example, often help members when they are experiencing financial difficulties. Family and friends may also be willing to loan money, or even give money, if they are able to help. This relieves the pressure of making timely payments, doesn’t hurt the score by adding debt to their history, and won’t add interest charges and fees to an already difficulty financial situation.

There are other less well-known options for generating additional income in difficult situations. For example, donating blood plasma is an option for earning some extra money. It’s not as quick as donating blood, and it is more involved, but it is a way to earn some cash and do something that is beneficial to others. To find a blood plasma donation location visit BloodBanker.com.

Selling personal assets can be an option for raising funds in lieu of borrowing money. Many people have furniture, jewelry, clothing, and other personal possessions that can be sold at yard sales or on consignment and bring in a fair amount of money. A short-term solution might be taking some valuables to a pawn shop to raise money to meet an immediate need.

Some other ways to earn extra money include working extra hours for overtime pay, getting a second job to earn a little extra to make ends meet like signing up for taskrabbit.com. There are many different services offered through taskrabbit.com, from delivery to baking and cooking, to assembling furniture and more. Visit the web site at TaskRabbit.com to learn more. Those are just a few of many options for additional work that can be found on the Internet or locally.

If working more is not an option, the less advisable options include borrowing more money. Sometimes it can be advantageous to use balance transfers to get lower interest rates and pay no interest for a period of time, but always read the fine print. There can be high fees and interest rates associated with balance transfers after the introductory period. Taking on additional debt or just moving it from one card to another won’t solve the problem, it may only make it worse.

When you need money, avoid high interest and hard to pay-off loans like payday loans. There are many scams out there that target people who are desperate for money, so if it seems too good to be true, it probably is. Keep that in mind.

It’s also wise to avoid prepaid cards offered by banks and credit unions. This product is not really an extension of credit. It is marketed to people with bad scores, who can’t get a regular credit card. Also, it is appealing to people who don’t want to use, or cannot use, typical credit cards. It is merely a convenience for the purchaser to be able to use a card for hotels and other situations when using cash or checks isn’t possible. The purchaser deposits money into the account and uses the card up to the amount of money they have deposited. They also must pay a monthly fee, which is on average around $10. Borrowers mistakenly believe this helps rebuild their score, but it does not. This is not an extension of financing, but rather the card holder is paying the card issuer for the privilege of using the card like a debit card, with a high monthly fee. Consumers would be better off with a debit card if it is offered free with their checking account, or simply using cash. The one exception where debit cards might be risky is if you are buying something from a source you might not trust well. Most debit cards lack some of the protections offered by a credit card.

Resources for Financial Issues

Consumers can find many resources online that can offer information and assistance with money issues from credit reporting to scores, bankruptcy to debt consolidation, to loan rates. Government agencies offer a wealth of information to help consumers make intelligent choices and to give them an avenue for seeking legal remedies when they have been damaged by illegal lending practices. Consumers can also find help with financial planning skills and debt repair. Visit any of the sites below for more information.

 


 

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