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Managing your credit

When you apply for credit, the lender will undoubtedly check your credit report. The information in your credit history helps lenders decide how much credit and what interest rate you are eligible for. The better your credit history, the more likely you are to qualify for the best credit deals.

But what will they be looking for?

Pay your bills on time
Creditors always look for indications that the prospective borrower is a good credit risk: a person who will pay back his or her debts in a timely fashion. Obviously, a history of on-time payments demonstrates that you are just such a person.

But that doesn't mean your credit history must be perfect for you to qualify--few people's are, after all. "Good" credit can include a few minor dings in your report, such as:

  • Up to two credit card payments 30 days late.
  • One installment payment, such as an auto or student loan payment, 30 days late.

No payments of any kind should be more than 60 days late and there should be no outstanding public record debts such as judgements or liens.

Keep your debt load reasonable
One factor any creditor must assess before offering credit is the total debt of the person applying. If a large portion of your income each month is already committed to paying off other debt, the lender will wonder if you may have trouble paying back an additional loan.

As a rule of thumb, financial experts say that non-mortgage debt payments should not exceed 10-15% of your take home pay each month. If your debts are currently too high, consider ways to pay some down before you apply for new credit.

If you can't seem to control your credit card spending, consider a few ways to stop using your credit cards.

A note about cosigning: If you cosign somebody else's loan, the outstanding amount is considered your debt, even if the individual for whom you cosigned is paying all the bills. Because cosigning means you have promised to pay back the loan if the other party does not, it is considered one of your liabilities. So think carefully before you cosign, even for someone you know will pay the debt; it does impact your credit.

Avoid unnecessary inquiries
Whenever you authorize a creditor, employer, or other business to check your credit report, an "inquiry" is added to the report itself--a note that someone has checked your credit. (Checking your own credit report, however, does not lodge an inquiry.) An inquiry usually stays on your credit report for two years.

A lender considering you for a loan will look at the number of inquiries recorded there and when they took place. A large number of inquiries occurring in a short period of time may be interpreted as a sign that you are either:

  • Applying for lots of credit because of financial difficulty.
  • Overextending yourself by taking on more debt than you can actually repay.

Therefore, it's always a good idea to minimize inquiries into your credit report. If you're shopping around for mortgages, for example, don't let every lender you consider run a credit check. You might have to settle for slightly more approximate estimates on what the lenders can offer you, since they can't verify your credit history. But that's still better than doing all that shopping around only to find that the lender of your choice now perceives you as a less solid credit risk and wants to charge a higher rate.

Eliminate excess unused credit
Just as a high number of inquiries suggests you may be overextending yourself, a lot of available credit means you have the capability to overextend yourself in the future, even if you have not done so in the past.

Although people may perceive having several credit cards with high limits a sign that they have good credit, too much of this good thing can make them seem like a poorer credit risk.

The lender needs to be reasonably sure that you will continue to be able to repay your debt in the future. But if you have thousands of dollars of unused credit available, you might spend it all the month after your loan goes through and suddenly have more debt than you can pay off.

To prevent this concern from arising, you should close unused credit accounts before applying for a large loan, and/or consider having your credit limits reduced. If you do either of these things, make sure to ask the creditors to record that the account was closed or changed at the consumer's request--you don't want anyone to get the impression the bank closed the account because of problems with your payment habits.

How can I establish--or rebuild--good credit?
If you do not have a well-established credit history, you should begin to build one.

The trick is to start small: try applying for credit with a local business, such as a department store or a local bank or credit union. These local merchants may have lower credit standards than larger lenders. Before you apply for credit, make sure the credit grantor reports credit history information to one of the major U.S. credit bureaus so you can build your history.

Other options if you are having difficulty opening a credit account include asking a friend or family member to cosign your loan or credit card application or obtaining a secured card, which is guaranteed by a deposit you make with the card issuer.

What are my consumer credit rights?
Federal law carefully regulates how information about your credit can be used. The two most important laws for credit-active consumers are probably the Equal Credit Opportunity Act (ECOA) and the Fair Credit Reporting Act (FCRA).

The ECOA mandates that every consumer who applies for credit has an equal chance to obtain it. This is not a guarantee that credit will be granted, but rather that the factors used to determine whether an application is accepted or rejected will be consistent and consistently applied for all applicants.

The FCRA ensures that consumers' rights and privacy are protected even as the credit reporting industry makes it possible for credit histories to be transmitted so quickly that stores can offer instant credit to consumers who qualify.

Requirements for accessing credit reports
To guard against abuse and to protect your privacy, the FCRA requires that all businesses must meet the following requirements before they are allowed to access credit information:

  • Proof of a permissible purpose under federal law
  • A background check and on-site inspection of the business
  • A current business license
  • A signed contract requiring the business to use the data properly
The only time your credit report can be accessed without your permission is in prescreening for credit offers or if a judge subpoenas your credit information. You can opt out of prescreening by contacting the three major credit bureaus, although you will then receive no more pre-approved credit card offers.

Accepted or rejected?
You have the right to know whether your application for credit was accepted or rejected within 30 days of filing it. If it was rejected, you have the right to know why. The creditor must either immediately give you the specific reasons your application was rejected or provide you with reasons if you ask for them within 60 days. Indefinite or vague reasons are illegal, so ask for specifics.

If you have been denied credit because of the contents of a credit report, the creditor must also provide you with information about how to contact the credit bureau that supplied the credit report. This is one of the few circumstances under which you are entitled to a free credit report directly from the credit bureau.

Actively monitor and manage your credit
While the most obvious thing you can do to build a solid credit history is to pay your bills on time, you can also take steps to protect your credit standing and make sure your credit report is accurate when you apply for credit.

Many credit reports contain inaccuracies, usually caused by innocent errors but occasionally by fraud (such as identity fraud, in which a thief uses someone else's name to open credit accounts). The Fair Credit Reporting Act ensures your right to dispute such inaccuracies in your credit report without charge. (For information about how to do this, see our Dispute Information.)

To effectively use this right, you need to check your credit report on a regular basis. For most of us, getting your credit reports once a year should be sufficient. Then you need to carefully evaluate the information contained in the various reports. If you worry about identity theft, and you can afford $75 - $100 per year, you might consider one of the credit check monitoring services. They send you a monthly report indicating all inquiries as well as new accounts that have been opened. .

You can also plan a credit strategy much like you would a budget to improve your credit worthiness. Taking steps like applying for a major credit card if you only have local credit, closing old unused credit accounts, and keeping tabs on the number of inquiries in your report can improve your credit status.

Skip the "Credit Repair" clinics
Although some consumers pay credit clinics hundreds or even thousands of dollars to "fix" their credit reports, only time can improve bad credit. The Federal Trade Commission has investigated and reported at length on these often-fraudulent "clinics." And some credit repair plans actually encourage you to commit fraud yourself by attempting to create a second credit identity.

The key fact: There is nothing a credit repair clinic can legally do to fix a credit report that you can't do yourself for free.

Consumer credit reports contain easy-to-follow instructions for disputing inaccurate information at no charge. Inaccurate information will be changed or deleted. Accurate information that shows negative payment habits will usually remain on a credit report for seven years, with bankruptcies remaining up to 10 years. Federal law mandates this.

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