Your credit score plays an important role in your financial life, affecting your ability to borrow money and how much you have to pay for loans.
Like grades in school, your credit score is a number, but unlike the 100-point scale most people are familiar with, credit scores use a scale from 300 – 850. If your score is 478 (or anything below 580), lenders see you as having a poor credit score.
Understanding how credit scores work, the different scoring ranges, how a poor score affects you, and how to improve your score can be helpful if you’re considering applying for a loan in the future.
Your credit score attempts to offer a numerical representation of your creditworthiness. The idea is that lenders can look at your credit score and quickly know whether you’ll pay back a loan.
There are three major credit bureaus in the United States, Equifax, Experian, and TransUnion that track your interactions with credit and debt. They use the information they gather to generate a credit report and then use a proprietary formula, such as the FICO score formula, to produce your credit score.
There are five factors that influence your credit score.
The most influential is your payment history. This is simply a measure of how many payments you’ve made compared to the number of payments you’ve missed or submitted late. Every timely payment helps your score while missed and late payments hurt it. A single late payment can cause a big drop in your score, so your priority when trying to maintain your credit should be to make all of your payments on time.
The next most important factor is the amount you owe. This measures both your total debt, as well as your debt compared to your credit card limits. The less you’ve borrowed, the better it is for your credit. If you have a lot of debt or max out your credit cards, it can lower your score.
The length of your credit history also plays a role in your score. The longer you’ve had credit, the higher your score will be. Lenders also look for borrowers that keep credit accounts, like credit cards, open for a long time. The older your average account is, the better it is for your score.
The least impactful aspects of your score are your credit mix and your new accounts.
Credit mix refers to the different types of loans that exist. If you have experience with different types of credit, such as a home loan, student loan, credit card, and/or personal loan, that will help your score. Someone who has only ever had a credit card won’t get as many points in this section.
Each time you apply for a new account, whether you get it or not, the credit bureaus note that in your file. Each application will drop your score by a few points. Lots of applications in a short time can really hurt your score.
The impact of each application decreases over time until they fall off your report after two years.
Other things, like having accounts in collections from unpaid bills or having a bankruptcy in your history can also reduce your credit score.
It’s important to know that credit scores aren’t perfect. They only look at how you’ve used and interacted with credit in the past. You could have millions in the bank, but if you defaulted on the only loan you’ve ever had, you’d have a bad credit score. Similarly, you could be destitute but have fantastic credit if you’ve always paid your bills on time.
Because credit scores aren’t a perfect predictor of a borrower’s ability to repay a loan, they aren’t the only thing that lenders look at. Still, they play a major role in your ability to borrow money, so it’s important to understand how they work.
Credit scores fall within a range of 300 – 850, which means there is a wide range of scores. Lenders often lump borrowers with similar credit scores together to make it easier to make lending decisions.
The typical credit score ranges are:
That means that if you have a credit score of 478, you have poor credit. This is also below the subprime threshold that lenders will even consider for offering credit.
Not every score in every range is equal. Someone with a credit score of 300 is likely to struggle to qualify for any loans while someone with a score of 570 is more likely to find a willing lender depending on the scoring model used. Still, these ranges are a useful way to get a quick idea of how lenders see you.
Your credit score can affect you in many ways and having poor credit can make some aspects of your life more expensive or difficult.
One of the most obvious effects of having poor credit is that it can make it more difficult to qualify for loans.
When you apply for new credit, whether it’s a mortgage or a credit card, lenders will take a look at your credit report. They want to make sure that you have a good track record and are likely to repay your debts.
If you have poor credit, odds are good that you’ve missed payments in the past, have bills in collections, or have a bankruptcy in your history. Lenders that see these things in your credit report might not want to take the risk that you’ll miss payments on a new loan.
In some cases, you can get trapped in a cycle of applying for a loan, getting denied for poor credit, and having the application show up on your report, dropping your score further. When you go to apply with a different lender, you’ll have an even worse credit score when the lender examines your credit report.
If you do find a lender that’s willing to give you a chance and offer you a loan, you’re likely to have to pay a higher interest rate than other borrowers. That means that you’ll pay more each month and more overall to borrow the same amount of money.
These differences can often be significant. For example, Chase offers interest rate estimates for auto loans on its website. As of December 9th, 2020, the bank estimated an interest rate of 3.39% for a car loan (2020 Ford) to customers living in Massachusetts and who have excellent credit.
If that borrower had fair credit instead, the rate would jump to 14.84%.
If the loan is for $20,000 with a term of four years, the borrower with excellent credit will pay $446.14 per month for a total of $21,414.72 over the life of the loan. The borrower with fair credit will pay $554.99 each month for a total of $26,639.52.
Having a worse credit score costs the borrower more than $100 with each monthly payment and $5,000 over the life of the loan.
For larger, or longer-term loans, such as a mortgage loan, the difference in cost can be even more stark. Even if you qualify for loans with poor credit and a sizable down payment, you may struggle to afford them.
Having poor credit can affect more than just your interactions with lenders and debt. It can affect other aspects of your life as well.
For example, if you move to a new apartment or home and want to sign up for utilities or internet service, the provider might ask you to provide a cash deposit. While paying utility bills in a timely manner won’t help your credit, missing payments and having bills sent to collections can damage your credit.
Utility companies, just like lenders, want to know that their customers will pay their bills. If your utility company thinks that you’re at risk of missing payments, it might make you offer a cash deposit to reduce its risks. That can make moving into a new home and connecting utilities even more expensive.
If you’re shopping for a new apartment, there’s a good chance that your landlord is going to run a background check on you before offering you a lease. Some lenders, depending on where you live, may check your credit report to make sure you’ll pay the rent on time each month.
If a landlord checks your credit and sees that you have a poor credit score, they may decide not to let you rent an apartment. If you live in a hot housing market, you may have to settle for less desirable accommodations because landlords won’t rent to you.
Some states allow insurance companies to check your credit score and use that information when determining your insurance rates. For example, if you apply for auto insurance, a poor credit score may cause the insurer to charge more each month for the same amount of coverage.
Some states, including Massachusetts, California, and Hawaii forbid this practice and some insurers don’t look at your credit even where it’s permitted. However, your credit can play a big role in your premiums when lenders do look at it. Some reports show that drivers with poor credit pay twice as much for coverage as those with excellent credit.
When you apply for a new job, your potential employer is highly likely to run a background check before extending an offer. Sometimes, the background check will include a credit check, especially if you’ll be in a position where you have access to the company’s financial accounts.
Employers want to know that the people they employ can be trusted to make financial decisions and trusted with the company’s money. If you have poor credit or a lot of debt, an employer may think there’s a risk that you’ll make poor financial decisions or even use company funds for personal reasons. This can lead to you not getting jobs you’re qualified for.
If you have a poor credit score, there are things you can do to work toward a higher credit score.
The amount of debt that you have is one of the primary factors in determining your credit score. If you have a lot of debt, one of the first things you should do to start building good credit is paying down your debts.
You don’t have to do this all at once. As you pay down your balances, your credit score will slowly improve. The important thing is to make progress and to avoid racking up additional debt. Make sure to make at least the minimum payment on each of your loans (this will also help with building a good payment history). Where you can, make additional payments to pay down your debts faster.
If you have credit cards, try to avoid using them while you pay down the balances. This will reduce the amount of interest that accrues and let you reduce your credit utilization.
A credit builder loan is a special type of loan that you can use to build your credit, even if you have a poor credit score. This is one of the simplest ways to build credit and some services offer automated credit building services that make it even simpler for you to build your credit.
Usually, these loans are for small amounts, such as a few hundred dollars. Instead of disbursing the money to you, instead, the lender will put the money into a savings account on your behalf. Like a typical loan, each month, you’ll get a bill that you have to pay. When you pay the loan off, the lender will release the savings account to you.
In this way, a credit builder loan is very similar to a forced savings plan, except that it helps achieve better credit.
As you pay off your credit builder loan, you can monitor your increases through a free credit score service such as Harvest.
One situation that many people with poor credit find themselves in is having poor credit, but not having a credit card or loan that they can use to rebuild their credit score.
It turns into a chicken and egg problem. Without a credit card or loan, you can’t build a history of timely payments, but without that history, you can’t get a loan.
A secured credit card can be one way around this. When you get a secured credit card (typically a Visa or Mastercard issued by a bank or credit union) you have to give the lender a security deposit, typically equal to your credit limit. The lender hangs on to your deposit. If you fail to make a payment on your credit card, the lender can take the deposit to cover its loss. In this way, lenders who offer secured credit cards take on almost no risk, which means it’s much easier to qualify for a secured card.
The drawback, of course, is that you need to have enough cash to make the deposit. Usually, you’ll have to provide a deposit of at least $200, though there are some options with lower minimum deposits. The good news is that you’ll get the deposit back when you graduate to an unsecured credit card or close the account.
Many secured card issuers also charge high fees. Before applying, make sure you understand the fee structure and look for a card that doesn’t charge annual fees.
To help build and maintain a good credit score, one of the best things that you can do is sign up for automatic bill payments.
Almost every lender has an option to sign up for automatic payments and you can usually customize how much you want to pay automatically. Whenever you get a new loan or credit card, sign up for automatic payments and you can be sure that you’ll never miss a payment and damage your credit.
Ideally, you’ll sign up for automatic payments for your full credit card balance. If you do, you’ll never have to worry about paying interest. Still, signing up to make at least the minimum payment automatically prevents you from missing due dates and still leaves you free to make a full payment manually.
The credit bureaus generate your credit score using the information contained in your credit report. If there’s a mistake in your credit report, the credit bureaus will calculate your score incorrectly.
It’s worth taking the time to check your credit report for errors. There are many services that let you view a copy of your report and many lenders and card issuers will let you see a copy of your report as a benefit of having an account.
You can also use annualcreditreport.com to request a copy of your report. By federal law, you’re entitled to a free copy of your report from each credit bureau once per year.
If you notice any mistakes that may damage your credit, reach out to the credit bureau to have it remove the mistake. Depending on the severity of the issue, this can significantly boost your score.
Having a poor credit score, such as a score of 478, can have a significant impact on your financial life. With these tips, you can understand how a poor credit score will affect you and what steps you can take to improve that score.
Harvest helps increase the net worth of the 99% through artificial intelligence and financial automation. To date, Harvest has refunded over $2M in bank fees and interest charges to its members with the ultimate goal of increasing the net worth of everyday Americans by $1 trillion by 2030. Our platform starts with providing immediate relief through bank fee and interest charge refunds, orients a member's financial health with our proprietary PRO Index™, and keeps track of net worth over time aided by our suite of financial tools. Check out our 8-step guide on "How to Build Wealth from Nothing" to get started on increasing your net worth.
Disclaimer: Harvest is not providing financial advice. The content presented does not reflect the view of the Issuing Banks and is presented for general education and informational purposes only. Please consult with a qualified professional for financial advice.