What is Bad Credit, and What Does It Mean For First Time Buyers?

In 2022 so far, FICO score statistics have revealed that 11.1% of American consumers have bad credit scores. Bad credit involves having a low credit score and can make it more challenging for first time buyers with poor ratings to take out loans such as mortgages.

What Is A Credit Score and Specifically, What Is Bad Credit?

Credit scores are a three-digit number ranging between 300 and 900 that measures a consumer’s creditworthiness and indicates how likely they will be able to responsibly manage their financial accounts.

Bad credit scores are usually below 670 and deem the consumers less creditworthy. A score between 580 and 669 is normally considered fair, and a figure between 300 and 579 is deemed poor. However, each different credit scoring model tends to have its own scoring and you can check yours here for free with the US government, or the UK government.

What Causes A Bad Credit Score?

 

Bad credit scores are usually due to one or more of the following:

• Poor payment history e.g. late payments, unpaid accounts or bankruptcy

• Having too many new credit accounts opened up in a small space of time

• Making lots of loan inquiries in a short period

• Using up too much of your credit capacity

Not opening up any credit accounts and having a nonexistent or limited credit history could also lead to a bad credit score since it would not be possible to determine how creditworthy a customer would be in lending situations.

 

What Does Bad Credit Mean For First Time Buyers?

Bad credit would make it difficult for first time buyers to purchase a property with a mortgage loan as they normally require good credit. Having a low score puts the buyers at a disadvantage as it means that the lender will feel that they are taking on greater risk and will therefore most likely offer them more unfavorable terms such as a higher interest rate. In some cases, first time buyers may simply be denied a mortgage due to bad credit.

According to Justine Gray from the funding start-up Dollar Hand, “First time property seekers with poor credit could however try to look more enticing to a lender by providing a higher deposit. This would reduce the risk for the lender as the loan-to-value ratio will be lower, meaning that if the lender has to repossess and sell the house, they are more likely to recover their money and potentially even profit from the situation.”

“Whilst loans for bad credit often come with higher rates and stricter terms, you may be able to offset this through paying a higher deposit or having a parent as a guarantor for your mortgage.”

 

How Can First Time Buyers Improve Their Credit Score?

The good news is that if you don’t want to put down a larger deposit, there are many ways first time buyers can try to increase their credit rating. Perhaps the most obvious way would be to avoid missing any payments and making sure that they do not have any debts outstanding. Alongside the late charges and interest that would come with this, failing to pay bills would certainly reduce a credit score, so working on a good payment performance could help to reverse the effects of this.

Consumers should also consider looking through their credit report and filing disputes to correct errors if they find any. Limiting the number of new accounts opened in a small space of time and not applying for credit unless it is really needed would also help. Likewise, keeping the balance on revolving lines of credit as low as possible, ideally less than 30%, could improve a credit rating.

Those with a poor credit score due to minimal financial transactions can consider opening up a credit card, for instance through American Express, to prove their creditworthiness. It is also sometimes possible to get rent payments and even the payment history on utility bills added to a credit report. This can help boost a credit score quickly, assuming that the payments have been made on time.

Conclusions

Whilst having a bad credit score can be stressful, it can be fixed over time with some financial dedication and commitment. Poor credit history is not permanent and thankfully there are many ways to improve your score. It is certainly worth considering boosting your rating before purchasing a property as this will save you money in the long run.