In a culture such as ours that is dominated by consumerism, the shopping temptation stares at us from every corner. Day in and day out, the average American is bombarded with advertisements and commercials luring him or her to spend now and pay later. With the use of plastic money and consumer credit catapulting to unprecedented levels in the past decade, it comes as no surprise that foreclosures, delinquent payments, late payments, and bankruptcies have reached an all-time high. Complicating the financial equation is the general stagnation of household incomes which have struggled to accommodate the increase in consumer debt. Collectively, these factors have converged to produce bad credit, a financial termite jeopardizing the entire foundation of an individual’s life. The ramifications of bad credit are significant and widespread, impacting everything from housing and employment opportunities to mortgages and insurance rates. Borrowers who are delinquent, default on their payments, or suffer from bad credit expose themselves to the following consequences:
1. Higher fees and charges
Bad credit borrowers face increased fees and charges, such as late fees.
2. Higher interest rates
Credit is more costly when a consumers credit score is low. Delinquent credit card borrowers are often subject to a penalty interest rate ranging from 25 to 30%. Because credit card or loan applicants with tarnished credit pose a higher risk to lenders, the latter generally impose a higher rate of interest on them. For bad credit borrowers, this means hundreds if not thousands of dollars more in charges resulting from high loan or credit card rates. Furthermore, borrowers who are delinquent on one credit card are often hit with a higher interest rate on all their other cards pursuant to a policy known as ‘universal default’.
3. Housing complications
Credit-impaired debtors face an uphill battle when attempting to rent an apartment, house, or condo. Their choices are limited, as landlords typically perform a credit check prior to renting. Bad credit often results in the denial of a rental application. Landlords may request applicants with bad credit to make a deposit (a requirement that is usually waived for those with a good credit rating), obtain a co-signer, and/or pay a higher rent.
4. Loan or credit denial
Borrowers with a poor credit rating are less likely to be approved for loans or credit cards. Creditors place a premium on an applicant’s ability to repay a loan and his or her payment history. Too many student loans, unpaid taxes, repossession, foreclosure, or bankruptcy can keep consumers from qualifying for a line of credit, personal loan, car loan, or mortgage. Bad credit prevents debtors from purchasing electronic equipment, furniture, or anything on credit.
5. Denial of services
Borrowers who are delinquent on their rent payments or utility bills risk eviction or discontinuation of their service, respectively. To have their services reconnected, they will be required to pay expensive charges and deposits as well as any outstanding balances.
6. Obstacle to car loan eligibility
Bad credit makes it harder to qualify for an auto loan. Borrowers with a negative credit rating who do get approved for a car loan are slapped with costly dealer fees and charged double the interest rate, thus making vehicles unaffordable. The rate of interest may be as high as 20-25%.
7. Calls from collectors
Accounts of debtors with high unpaid balances are usually sold to professional debt purchasers or transferred to attorneys or collectors. Individuals with bad credit are also the subject of incessant calls from debt collection agencies. Consumers with bad credit are charged fees and accruing interest.
8. Inability to open a checking account
9. Disadvantage in relation to mortgages and other loans
As a general rule, mortgage lenders require applicants to have a good credit score. Since a bad credit rating indicates to creditors that an applicant is more likely not to make payments in a timely manner, it can shut the door to financing and result in the denial of a mortgage. Consumers with credit problems, such as FICO scores in the 600 range or below, bankruptcy filings, foreclosures, charge-offs, or recent unpaid balances pay higher down payments, interest rates, and origination fees. Individuals who have defaulted on their house payments for several months may be required to pay substantial fees in full to stop or avoid foreclosure.
10. Adverse impact on eligibility for car rental
Consumers with bad credit may experience difficulty in renting a car.
11. Insurance denial or hike in insurance rates
Many insurance providers – usually home and auto – take credit history into consideration when evaluating whether to renew or issue an insurance policy and how much coverage they will offer. Insurers rely on the data in prospective clients’ credit reports to create an insurance score, which forecasts the frequency of claim filing by the applicant and the expense associated with it. Insurance scores are based on the length of credit history, unpaid debts, collections, bankruptcies, and payment history. Applicants with bad credit pay more for insurance because insurance companies consider that a client’s credit history determines the odds that he or she will file a claim. Individuals with a poor credit rating may not be covered by an insured’s underwriting guidelines and may be denied a renewal.
12. Legal action
To recover funds owed, lenders have numerous remedies: (1) filing of a lawsuit, (2) foreclosure or lien on the borrower’s property, (3) repossession or seizure of the debtor’s assets (i.e. home, car), and 4) garnishment of the borrower’s wages.
13. Employment difficulties
Bad credit risks are viewed by prospective employers as irresponsible and therefore have a diminished chance of being hired. An increasing number of employers are utilizing credit reports for purposes of screening and hiring job applicants and evaluating employees for retention or promotion.
While wiping out a bad credit history is not a simple and rapid task, a good dose of discipline and patience produces positive results. What follows are some credit-building strategies for consumers with a blemished credit score:
Consulting a credit counseling agency which assists consumers with debt reduction and repayment; Obtaining a free copy of one’s credit report from each of the three leading consumer reporting agencies (Experian, TransUnion, and Equifax) and reviewing it for errors, inaccuracies, and incompleteness; Paying balances in full and on time; Keeping balances low (preferably lower than 20% of one’s credit limit); Ensuring that the credit bureau removes information concerning debts discharged in bankruptcy; Opening a line of credit at a gas station or department store and paying balances on time; Applying for a secured credit card that reports to the three main credit reporting agencies and using it to purchase items that are paid in full each month; Taking out bad credit personal loans and paying them off in a diligent manner, which would lead to lower interest rates and an improved credit score; Refinancing one’s mortgage via bad credit home loans; Asking a friend or relative to co-sign on a credit card or loan; Paying more than the minimum balance on one’s credit cards; Not applying for new credit card accounts; Closing old credit accounts that are unused; Enrolling in debt consolidation programs, whereby the borrower’s account is re-aged and marked as current as long as he or she is making payments consistently; and Entering into debt negotiation or settlement, which effectuates a 40-60% debt reduction and involves a lump sum payment of outstanding balances.