Credit reports and credit scoring demystified
Every time you apply for a loan or other forms of credit, your credit report will be checked by the lender to assist them in their decision as to whether your application should be approved or rejected. If you are offered a loan, the details contained within your credit report will also determine the interest rate you pay.
Lenders use information in credit reports which are compiled by three credit reference agencies in the UK - Equifax, Experian and Call Credit, to calculate credit scores. If your score is above the level the lender has set, you will mostly likely be offered a loan, if your score falls below the desired level, you are likely to be turned down or pay a much higher rate of interest than the advertised APR.
Dating back to the start of the financial instability in 2007, lenders have imposed much tougher restrictions on who they want to lend to and have been probing much deeper into applicants credit histories. The bar has certainly been set higher, with even the slightest blip on a persons borrowing record meaning they could lose out on getting one of the best rate loans.
Neil Munroe from credit reference agency Equifax commented "They are checking things more thoroughly. It used to be a simple case of checking how good you were at paying - and paying on time. Now just one late payment on a credit agreement that might not previously have been a major issue for lenders could now make all the difference. It could result in them being denied a loan completely or paying a higher rate of interest."
Lenders are looking for evidence that you are creditworthy and will make a good customer. Decisions are not totally based on your credit report as other factors such as whether they think you can afford the credit, based on your income are also considered, but your credit report is a fundamental part of the decision making process.
Lenders decide not credit reference agencies
The key distinction to make is that the credit reference agencies provide the credit reports and the lenders use this data to generate a credit score using their own internal methods. When you access your credit report, the credit reference agency will usually give you their score based on their criteria, but ultimately it is the lender that decides based on the score they calculate and not the credit reference agency. How the data provided by the credit reference agencies in interpreted will vary from lender to lender. Each will have their own routines and methodology, so just because one lender rejects you, don’t automatically assume everyone will.
Calculating a score
Lenders use a variety of data to generate a credit score including:
Credit report information
Electoral register – This data is included on your credit report and is provided by local councils. It establishes whether you have been registered to vote at an address and is used to confirm your identity when you apply for a loan.
Credit accounts and payment history – Your credit report contains details of your payment history on current or previous loans, credit cards, mortgages and other credit accounts such as mobile phone contracts. The start date, amount of credit and the balance outstanding is disclosed.
County court judgments, bankruptcy or IVA details – Any CCJs which have been registered against you will show on your credit report. The amount and date of the judgment, which court it was issued by and the case number will be listed. If the debt has been paid it should show as satisfied with the date of satisfaction.
Bankruptcy data is provided by the insolvency service and will show the date the bankruptcy was issued and the name of the individual declared bankrupt.
How many new credit facilities you've applied for – Each time you make an application for a new credit account it is recorded on your credit report and will be visible to other lenders regardless of whether you were accepted or not.
Financial associations - If you have a financial connection with someone else such as your wife or husband or partner, then their credit report information may be considered.
Data provided on the application
Information you provide on the loan application is also factored into the equation including your occupation, current salary and residential status.
Indications of good financial management such as a track record of making payments on time are awarded positively while signs of financial distress are scored negatively such as defaults, missed payments and CCJs.
Points are awarded to all the relevant parts of your application including employment details and whether you're a homeowner or not. The points are tallied up for a total credit score and the outcome of any credit application will hinge upon your score. Some lenders will have a higher 'pass' mark than others depending on the types of customer they are looking to attract.