Know the score

Your credit score is an important number and will affect your ability to secure a mobile phone plan, obtain a new credit card or take out a home loan. The number itself is not important, but where you fit into the five credit score categories of risk is. Credit scores are easy to create but can be hard to change if they become unfavourable.

Your credit score is a number based on your credit history and activity, and is evaluated at a particular point in time. It helps companies know how likely you are to be able to afford to repay any service or loan they offer you.

It is calculated using things like:

  • Personal details like your age, living arrangements and income
  • Your banking details, including any credit cards
  • Records from any providers you might have used like mobile phone companies or electricity companies
  • Any loans you might have
  • The number of applications you’ve made for credit, and enquiries for these
  • Any unpaid or overdue credit or loan payments
  • Bankruptcy or insolvency.

The five point scoring system

The credit score number, which can be between 0–1000 or 0–1200 depending on the agency assessing you, is positioned into five categories of risk: excellent, very good, good, average and below average.

You are more likely to have a contract or loan rejected if your score falls under the average and below average categories, and most likely to have it approved under the excellent or very good categories. However, this all depends on the particular standards of a provider – they might set their standards to only accept those with an excellent credit score. This might be the situation if you are applying for a credit card with a high limit or for a mortgage on a property.

Other providers might be more open to accepting a lower credit score. This might be more likely where the contract or loan is of a lower value. For example, a post-paid phone contract of $30 a month. Or alternatively, you may be required to put forward additional collateral to support your request, like a car or your home, in order for a company to approve you on a lower credit score.

No debt, no worries?

Having a great credit score is not as simple as not having any debts or contracts, it’s something you develop over time. Even with no debts to your name, you may still may not achieve an excellent score. To demonstrate how this can occur, here’s a fictional example.

Jen is 20 years old and earns $20,000 per year working a casual job while she studies at university. She saved $7,000 of this in the previous year and is on track to save the same this year. She wants to buy a car using a loan for $15,000 repaid over three years and paying the rest with her current savings.

On the face of it, she looks like a great prospect for the loan with her saving history. Yet the financing company might hesitate giving her a loan and it all comes down to not having a credit history. Let’s say Jen lives with her parents – she’s paying them board and also pays them for her mobile which is under a family plan. She only has a savings account. Assessing how likely Jen would be to repay her loan is more difficult than just looking at her savings because there’s no formal evidence of her paying and managing her contracts in the past – even her mobile phone is not in her name.

If Jen’s application was rejected, she might have to look at other avenues – such as having her parents as co-applicants on her loan or applying for a smaller value. It’s worth noting that Jen’s university HELP debt would not have been counted as part of her credit score, so it wouldn’t have had a negative effect – it’s one of the advantages of that particular government loan.

Of course, on the flip side, don’t forget that a small debt can affect your credit score in a negative way. That phone bill you couldn’t afford last year and paid two months late is now on your credit history. Or when you accidentally overdrew your bank account last month.

Even your habit of only paying the minimum repayments on your credit card could mean the difference between one score and another.

Bad debts

It can get really bad when debt collectors get involved. Say you failed to pay a rental increase and the agent called in a debt collector? Or you owed taxes to the Australian Taxation Office for several years? That might affect your ability to get a phone contract, let alone a home loan.

Bankruptcy is one of the worst case scenarios for debt and have consequences beyond what you expect in the short-term. Your credit score will be affected for five years from the date you became bankrupt or two years from the end to your bankruptcy, whichever comes later. Not to mention, your name will permanently be listed on the National Personal Insolvency Index.

5 tips to building your credit score

So what is the path to an excellent credit score? It all starts with creating a history for yourself that can be analysed. A few options are below. 

1. Use your own name for assets and utilities

Having your phone bill in your own name is a way of demonstrating your ability to pay your contracts. Ensure you select contracts you can comfortably afford so you don’t face months where you might pay late. If you are in a relationship, ensure both of your names are on contracts to avoid a situation down the track where you have no credit score of your own.

2. Pay your credit cards in full

When you only pay the minimum, you not only continue to hold debt but you are also starting to accrue interest on that debt. You’ll end up having to pay far more than if you paid it off at the start. If you are struggling to pay for your credit card, speak to your provider for help. They can assist you in setting up a repayment schedule and other options. It may also be helpful to consider a lower limit on your credit card – the bigger the limit, the easier it can be to spend to it.

3. Evaluate contracts and loans before you apply

Your credit score also looks at the times you’ve been rejected in applications for loans, services and credit. Make sure when you make an application that you can prove your ability to comfortably make repayments, even in an emergency, and avoid building a list of rejections to your name.

4. Watch your spending habits

Spend within your means and be aware of your bank account and credit card. The digital world can make your money feel a lot less real so it’s up to you to remember what you have and what you can afford. Staying up-to-date with what’s in your account can help you avoid that dreaded overdraw situation (where you also end up with an additional bank charge!). As a worst case scenario, some bank accounts offer an overdraw facility to prevent emergencies affecting your credit score – but use with caution.

5. Seek help as soon as you can for bad debts

If you think you are going to have trouble with payments on debts you have accrued, seek help as soon as possible and make sure your debt doesn’t keep increasing, making it harder for you to recover. There are a range of ways you can consider to seek help. One option is talking to the creditor you owe as they might be able to help you plan out a manageable repayment plan. Or there are also facilities like the National Debt Helpline (1800 007 007) or financial counselling, which can be free depending on the organisation you approach. You can search for a financial counsellor here.

If you think you may have to declare bankruptcy, it can be very difficult to change your score for a long time. Alongside debt help facilities, you may need to consider legal assistance.

Find out more about credit scores and access a free copy of your credit score at ASIC MoneySmart. The earlier you build a strong credit score, the better you are positioned for the big expenses that may come up later.

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This information has been prepared by Westpac Banking Corporation ABN 33 007 457 141 AFSL & ACL 233714 (Westpac) and is current as at 19 October 2017. BT Advisers are representatives of Westpac. BT Advice is a division of Westpac.

The information in this article is general information only. It does not constitute any recommendation or financial product advice. It provides an overview or summary only and it should not be considered a comprehensive statement on any matter or relied upon as such. The information has been prepared without taking into account your personal objectives, financial situation or needs and so you should consider its appropriateness having regard to these factors before acting on it. Before acting on it, you should seek independent financial and tax advice about its appropriateness to your objectives, financial situation and needs.

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