There are a number of factors that can give you a bad credit rating and make getting financing of any kind difficult, or at the least, more expensive. The lower your credit score, the more likely a bank or other finance company is to charge you higher rates of interest if they are willing to lend you money at all. This can make getting a new car, house, or other big purchase very expensive indeed.
Good or bad credit rating all revolves around one simple number that lenders refer to as FICO (short for Fair Isaac and Company which is the original company that came up with the scoring system used today). This number ranges between 300 and 850 with 300 being the very worst credit rating, and 850 being the very epitome of good credit. This score is based on the following percentages:
35 Percent of this score is based on you past payment history. This number indicates such factors as if you make your payments on time, or if you make them a few days, a few weeks, or a few months late, or if you do not make them at all.
30 Percent of this score is made up of how much outstanding debt you have. This is a much larger portion of your credit score than many people think it is. The more money you owe, the more unlikely a bank will think you are to pay off new loans no matter how good you are at paying your current bills. Some financial experts call this the debt to income ratio.
15 Percent of your score is based on how long you have had credit. A one year payment history is not as good as a 20 year payment history. Of course, one really good year beats 20 really bad ones, but if they are both equal the longer term is better.
10 Percent of this score is based on how many companies have inquired on your credit history in the past year. If you have a lot of inquiries banks think you are fishing for as much credit as you can get and may end up with multiple new loans all at the same time thereby over-extending yourself. This is one good reason to get on the national registry that prohibits lenders from doing those ‘pre-approved’ credit checks that they are always sending to your house in the junk mail.
The final 10 percent of your credit score is based on the type of credit you have outstanding. Certain types of loans count for more than others. Car, house, and other major purchase loans have a higher value than simple rotating credit that can be used for anything under the sun and may not include any purchases of long-term value.
Knowing what factors play in creating good and bad credit ratings can help you design your financial life and spending habits around developing a good score. Paying your monthly bills on time, keeping your loans in a reasonable level compared to your income, and only using credit for important purchases are great ways to develop good credit ratings instead of bad credit ratings.