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Applicants with the lowest credit score (or scores that fall in the poor credit score range) generally have difficulty qualifying for mortgages, personal loans, and auto loans without a co-signer. The lowest FICO score and VantageScore that a person can have for the most common versions of these credit scoring models is 300.
Below, we’ll discuss the impact of a low score on your finances and show you how you can improve your score.
What Creates a Low Credit Score?
There are several negative factors that can cause you to have a bad credit score, including:
- Minimal credit history. If you don’t have a long credit history, your score could be below average. As of October 2020, those 18 to 23 – the age group most likely to have minimal credit history – had the lowest average credit scores, according to an Experian report.
- High use of credit. Your credit utilization rate measures the percentage of credit you use compared to your available credit. Because it makes up 30% of your credit score, overusing your available credit can lower your credit score.
- Late payments. If you don’t pay your bills on time and they are 30 days past due, your creditor can report the late payment to one of the three major credit bureaus: Experian, Transunion, or Equifax. Your payment history represents 35% of your credit score, so making payments on time is essential.
- Collections. When you default on a credit obligation, your original creditor may sell your debt to a debt collector or collection agency. Once your debt is sent to collections, it is usually reported to the credit bureaus. A collection can cause your credit score to drop significantly, and you may have to wait up to seven years for it to be removed from your report.
- Bankruptcy. If your credit report mentions bankruptcy, it can negatively impact your credit score for up to 10 years. How long it stays on your credit report depends on whether you have filed for Chapter 13 (up to seven years) or Chapter 7 (up to 10 years) bankruptcy.
Risks of having the lowest possible credit score
If your credit rating is low, it can hurt your finances in a number of ways, including:
- Potential loan refusals. When you have a bad credit rating, you probably won’t meet a lender’s minimum credit rating requirements. This means that your loan will likely be refused unless you apply with a co-signer.
- Higher down payment and security deposit requirements. Some lenders will charge you a higher down payment if you don’t meet their credit score requirements. For example, if you have a score below 580, you will need to make a 10% down payment instead of the standard 3% for a Federal Housing Administration (FHA) loan. Additionally, a landlord may ask you for a higher security deposit when you rent an apartment.
- Higher interest rates. If you are approved for a loan, a lender will likely charge you a higher interest rate to offset the increased risk. This can dramatically increase your borrowing costs, reducing the amount of money you need to spend on other financial goals.
- Higher fees. In addition to higher interest rates, you can pay more fees when taking out a loan, such as origination fees.
How to improve your credit
If you want to increase your chances of qualifying for loans and get a lower interest rate, follow these four steps to improve your credit score.
1. Build a credit history
If your credit history is minimal, you can create credit by taking out a secured credit loan or credit card. Both options require you to deposit a security deposit – you will get the deposit back after you pay off the loan or cancel the credit card.
Alternatively, you can ask someone who has excellent credit and a long credit history to add you as an authorized user on their credit card. Since the length of your credit history is 15% of your credit score, your score may improve if the credit card company reports the information on your credit report.
2. Pay your bills on time
The most important credit score factor is payment history – it accounts for 35% of your credit score. If you make a late payment or your debt ends up being collected, this negative information can stay on your credit report for up to seven years. Paying all of your bills on time can help prevent damage to your credit score.
3. Pay off the debt
The amount of debt you owe is 30% of your credit score. Paying off your debt can lower your credit utilization rate and improve your score. You can use snowball or debt avalanche repayment methods to achieve this goal.
The debt snowball method involves spending the most money on your smallest debt while paying the minimum balance on your remaining debt. With the Debt Avalanche method, you invest the most money in your debt at the highest interest rate while paying the minimum balance on your remaining debt.
4. Examine your credit reports
Monitor your credit reports at least once a year for errors. Any incorrect or inaccurate negative information could damage your credit score. To correct an error listed on your report, dispute it with each credit bureau that lists it.
You can view all three of your credit reports for free by visiting AnnualCreditReport.com. Due to Covid-19, you can view your credit reports every week until April 20, 2022.
Common Credit Score Ranges
Although credit score ranges vary, the two most common credit score models for FICO and VantageScore have ratings ranging from 300 to 850. The lower your score on each model, the harder it will be to qualify. for funding. For FICO, the lowest credit score range is 300 to 579; the lowest credit score range for VantageScore is 300 to 499.
When you have the lowest credit score or even one that is in the lowest rating range, you risk being denied credit or paying higher interest rates and fees. You will likely pay thousands of dollars more than a borrower with good credit in your lifetime. However, the good news is this: your credit score is not permanent. You increase your chances of qualifying and save money on fees by taking some of the steps mentioned here to improve your credit.