The danger of applying for credit
Struggling Britons have been dealt another hefty blow as tightened lending criteria result in more applications for credit being rejected.
For some time, savvy spenders have made the most of 0% credit cards to shift their debt or make purchases without having to pay any interest. Known as ‘rate tarts’, these borrowers cottoned on to the fact that spending on credit doesn’t have to be a bad thing; as long as you are sensible about paying off your balance within the interest-free period, plastic can help you manage the expense of everyday living and spread the cost of purchases over time.
With the credit crunch eating into some household budgets, 0% credit cards for both balance transfers and new purchases have become increasingly popular. But new figures show that consumer appetite for such deals comes at a dangerous price.
According to analysis by uSwitch.com, almost two million people were rejected for balance transfer deals in the last year.
It is near impossible to find out why so many people are rejected for credit cards, as providers refuse to release their own rejection figures because it is considered ‘commercially sensitive’. However, Nationwide’s interim financial report, published at the end of last year, revealed that the society’s ethos of prudent lending had resulted in 60% of unsecured loan applications (which includes credit cards) being rejected.
David Black, head of banking at data provider Defaqto, points out that most lenders have adopted prudent approaches during the past 18 months and have tightened their critieria – suggesting that Nationwide’s peers are also rejecting more applications for credit than in the past.
The immediate concern is that these people – many of whom may well be struggling financially and looking for an interest-free way to clear their debt - will be forced to find alternative loans or cards that will see them rack up interest on their debt.
But, perhaps more seriously, what many people don’t realise is that being rejected for one credit card could damage their chances of getting a credit card, loan, mortgage or even a current account in the future.
When you make an application for credit, the provider will check your credit record and review your employment details and other information supplied in your application form, before giving you a score. If you don’t match its criteria, it will reject your application – but the search it carried out on you will be noted on your credit record.
This is known as a hard footprint, and can be seen by other providers. This can have a negative impact on your overall credit rating and can make it harder for you to borrow down the line.
Louise Bond, personal finance expert at uSwitch.com, says: “The knock-on effect for credit card customers is that those with a less than perfect credit history could find themselves being turned down for the next best 0% deal, forcing them to pay interest. This is a huge problem for switchers as these people have accumulated debt based on the fact they do not have to pay interest on it.”
Even if you do meet its criteria, there is no guarantee you will be given the interest rate advertised – the law requires providers to provide a typical APR when marketing products, and they must also ensure two thirds of successful applicants are given this rate. However, the remaining third will be given what is known as personal pricing, based on your credit score.
People with less than perfect scores are more likely to be given personal pricing – that is, a higher APR - than those with squeaky-clean payments histories.
Asides from credit cards, people applying for mortgages are also being warned to be careful before they send off their applications.
Richard Morea, technical manager at London & Country, warns that mortgage lenders are increasingly cherry-picking the best borrowers, based on their affordability and their credit scores, with everyone else left out in the cold. He is also concerned that more people are applying for mortgage loans, attracted by the low rates on offer, without paying attention to their chances of being accepted or not.
If they are rejected, this will blemish their credit rating.
“It’s hard to understand different lenders’ criteria because they look at your personal information as well as the details of the property you want to buy,” he adds. “For example, you might be rejected because you want to buy a studio flat but the lender you’ve applied to doesn’t lend on that type of property.”
In these instances, your credit score will be affected but you should be able to mitigate the damage by explaining to other lenders the reason for your rejection. “However, you will have wasted time – consulting a mortgage broker is a good way to avoid this sort of issues, as they will know which lenders are suitable for you,” says Morea.
What can you do to improve your credit rating?
Each lender will have a different scoring system, so in advance of applying for credit it can be hard to know exactly what might hold you back.
If you have had a County Court judgement in the last six years then this will appear on your credit report. If you pay this within one month it will stay on your record for six years but will be shown as settled. Bankruptcy orders will also appear on your report for at least six years even if you are discharged. Individual voluntary arrangements are also shown for six years.
Because lenders in the UK share information about their customers with each other, all your financial credit agreements will be shown on your report. Your credit rating outlines all your credit agreements and also gives each account a status code that shows how you have managed your repayments.
For example, a 0 indicates that your payments are up to date while a 4 shows payments are four months late. The letter D indicates the account is not being used while a U is displayed when a credit agreement is new and the information is not yet available.
As well as active accounts, all credit agreements you have had within the last six years will be displayed on your report. If the account is settled and you made all the repayments on time then this will be recorded. But if an account was in default because a payment was late then the date this happened and the amount outstanding will be included.
The first step to improving your credit rating is to have a look at your credit report from a rating agency. The three most popular are Experian, Equifax and CallCredit.
By law all credit agencies are required to provide you with a one-off copy of your credit report for £2. However, you can also purchase additional products that allow you unlimited viewings of your rating online.
Your report will reveal both public and private information. The public information is from the electoral roll including your name and where you are registered to vote. If the address shown is not your current address, perhaps because you have recently moved, you need to ask your local authority to add your name to the electoral roll at your new address as this is one of the main reasons why lenders reject applications.
Your private information includes details of any financial links you have to other individuals, such as joint accounts and joint credit applications. This will detail the name of the individual, the name of the organisation that created the link and when it was set up.
If you have a financial link with someone who has a bad credit score, this could affect your rating.
You should also keep an eye open for any mistakes or suspicious activity on your credit report, and report this to the agency that sold it to you.
However, if you know you’ve had problems in the past then there are some steps you can take to clean up your rating. Paying off your credit agreements will improve your profile, as will limiting any new debt.
A quirk of lenders is that they are more confident in lending to people who have a history of borrowing and repaying debt on time. So if you have never had a credit agreement then taking one out and repaying it in full and on time will improve your rating.
Store cards are a good way to do this, as credit checks aren't carried out as part of the application process. Just make sure you pay off any purchases within the interest-free period as this method of payment is notoriously expensive.
If you have been turned down for a loan or other credit agreement then you have the right to know why. Ask the lender for details of your application as this may highlight any mistakes or issues with your rating.
Your credit report also allows you the opportunity to get your point of view across to lenders. You can include a personal statement on your report, explaining why you missed a payment. While lenders don’t have to take this into account, it won’t harm your chances of being approved for credit.
Also remember that a bank cannot run a credit check on you without your permission, so if you notice any footprints that shouldn’t be there you are entitled to complain to the company in question. Banks should also carry out “quotation searches” when the variable rate is determined by your rating and these do not leave a footprint.
Your credit score is a three-digit number (ranging from a low of 300 to a high of 850) calculated from the information in your credit report. Your credit score enables lenders to determine how much of a credit risk you are. Basically, a low credit score indicates you present a higher risk of defaulting on your debt obligations than someone with a high score. If you have a low credit score, any products you successfully apply for will carry a higher rate of interest commensurate with this risk.
An account opened with a clearing bank (few building societies offer current accounts) that provides the ability to draw cash (usually via a debit card) or cheques from the account. Some pay fairly minimal rates of interest if the account is in credit. Most current accounts insist your monthly income (salary or pension) is paid directly in each month and they offer a number of optional services – such as overdrafts and charge cards – which are negotiable but will incur fees.
Unsecured loans mean the loan is not secured on any asset you already own, such as a house, car or other assets and so is a riskier prospect for the lender. Therefore, they usually come with higher interest rates than their secured counterparts, are less flexible and levy high redemption penalties. Most “personal” loans are unsecured.
A report containing detailed information on a person’s credit history, a record of an individual’s (or company’s) past borrowing and repaying, including information about late payments and bankruptcy. It also includes all applications a person has made for financial products and whether they were rejected or accepted. Your credit report can be obtained by prospective lenders to determine your creditworthiness.
Used by the holder to buy goods and services, credit cards also have a monthly or annual spending limit, which may be raised or lowered depending on the creditworthiness of the cardholder. But unlike charge cards, borrowers aren’t forced to pay the balance off in full every month and, as long as they make a stated minimum payment, can carry a balance from one month to the next, generating compound interest. As the issuing company is effectively giving you a short-term loan, most credit cards have variable and relatively high interest rates. Allowing the interest to compound for too long may result in dire financial straits.
Moving money from one account to another, whether switching bank accounts or more likely transferring the outstanding balance on your credit card to another card that charges a lower – or 0% – rate of interest. Some card providers may charge a transfer fee that can be a percentage of the balance transferred.
A person (or business) unable to pay the debts it owes creditors can either volunteer or be forced into bankruptcy – a legal proceeding where an insolvent person can be relieved of their financial obligations – but loses control over their bank accounts. Bankruptcy is not a soft option. Although it may wipe the financial slate clean, it is extremely harmful to a person’s credit rating (it will stay on your credit record for six years) and will adversely affect your future dealings with financial institutions. Bankruptcy costs £600 paid upfront.
This is used to compare interest rates for borrowing. It is the total (or “gross”) interest you’ll pay over the life of a loan, including charges and fees. For credit cards where interest is charged at more frequent intervals, the APR includes a “compounding” effect (paying interest on interest). So for a credit card charging 2% interest a month (equating to 24% a year), the APR would actually be 26.82%.