How Current Levels of Debt Affect Your Credit Score

It is surprising to many people when they find that their current debts affect their credit score almost as much as their previous history.

In fact almost a third of your credit score is determined by your current levels of debt and the types of debts that you have.

The reason why current debts are so important is because they can indicate to a potential lender that you might already be strapped for cash and have difficulty making repayments on your loans.

Even if you can show that you have been making your payments and you have a good record with no defaults they will take into account that any additional loans will make your repayments increase and that might be all that is needed to ‘break the camels back’ and that places all your loans into a higher risk situation.

Another factor that the credit bureaus will take into account apart from the level of current debt is when the debt money was initially borrowed.

If a lot of the debt has been borrowed recently this will alert them to the fact that there could be problems with finances that have necessitated additional borrowings.

The best way then to increase your credit score is to start paying down your current debts so your financial position and ultimately your ability to make your debt repayments will look more favorable and your level of risk will be lower.

If you can increase your income then this will also help, as it will make repayments easier thereby lowering your risk, however for most people an increase in income is not an option.

The number of loans that are current has an effect on your score also. Reducing the number of loans, even if the total debt remains the same can help in some circumstances.

Working It Out Without Filing Bankruptcy

When you get into financial difficulty you need to accept that you will have to contact the people you own money to and ensure that the lines of communication are open to help them understand your situation and hopefully allow you to work through your problems.

While many people feel embarrassed to admit that they are in financial difficulty it is better to let lenders know the situation than to have them try to second guess why payments are late or missed.

Often they will help you to work through the problems because it is their money at stake and they might be able to extend the term of the loan to make repayments smaller or give you more time to catch up on late payments.

You need to tell them if you can’t make a payment on time before the due date and if you can catch up the difference before the next payment is due they might be happy to wait until that time.

They might even decide not to inform the credit bureaus if you tell them in advance and this will stop your credit score getting downgraded.

They are unable to know whether you have a temporary problem that will be resolved shortly or you have more significant problems that will jeopardize the repayment of their money.

Most creditors will think the worst case scenario when payments are not made on time and will record the problem with the credit bureaus so you need to reassure them where you can that their money will be safe.

There are often solutions that can be sorted where there are problems with the payment of bills too, as many people have periods of financial struggle and the utility companies understand this and are usually only too willing to help in the situation and setup a payment program that will help you to cope and them to get their money.

Good communication will prevent dings on your credit score more often than not and show that you are dealing with any issues responsibly and intend to make full repayment of the monies that you owe.

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Getting perspective

Sometimes the overwhelming size of your debt and the fact that it has gone on for so long makes it difficult for you to put things into perspective and handle the situation in a manner that is as stress free as possible and will result in an optimum solution.

Now consider this for one moment because it affects a lot of people who are in dire financial straits — your health and well-being are more important than any problems that you have with finance at the moment.

That and the well-being of those you are responsible for, particularly if you have young children is your number one concern.
If you make sure that that part of your life is being handled in the best manner possible, and only after that has been attended will you be able to start making moves towards sorting out your financial position.

Some of the richest people in the world have been bankrupt at some stage in their life and while hopefully that will be something that you never have to deal with, it is sometimes worthwhile just considering what is the worst scenario that could happen to you as far as your finances go.

Once you have dealt with that you will be able to put everything else in your life into perspective and will help you to deal with the situation at hand in a more orderly and businesslike manner where emotions aren’t going to hinder your chance of reaching your goal of financial freedom.

Too many people have let financial problems get out of perspective in their life and cause them to do things that they will regret for the rest of their life. It is not necessary and it is certainly not wise no matter how bad the situation might seem at the moment to let money ruin your life.

There is always an answer and to some people the path to recovery is just a little longer than others but provided you are moving in the right direction you will certainly get there one day.

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Wants v Needs

There is a big difference between wants and needs and when you are faced with excess debt then the only thing you really need to focus on are your needs and how you are going to pay for them.

You don’t need to own the latest wide screen television or an X-Box or PlayStation. If you’ve got overwhelming debt then one of the first things you need to do is start limiting luxuries. Now this doesn’t mean you are going to downgrade your lifestyle at all because along with all these luxuries that you’ve been purchasing your lifestyle has been downgraded considerably with the increased stress and financial burden you are faced with every day.

Now consider how much happier you would be if you didn’t have to pay back all that debt. Consider how much happier you would be if you didn’t have to think about how you are going to pay the food bill at the end of the week.

Once you start putting these factors into perspective you can see how the purchase of luxuries that might possibly give you a few moments of pleasure have added a whole lot more stress and strain to your lifestyle and have actually limited the things that you can do on a daily basis.

Wouldn’t you like to trade in some of those appliances that you never use for less stress and more time to get out and enjoy yourself? Wouldn’t you like to trade them in with a chance to take a short holiday away from the worry is that are constantly on your mind at the moment?

Now is the best time for you to start looking at these luxuries and consider the benefits they have given you and the downside that you are living with.

When in debt limit or eliminate your luxuries and those that you have and don’t need – cash up and use the money to pay off some of your debt. You will be a lot happier in the long-term.

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Tracking expenditures

Most people are surprised to see how much money they waste and never knew about it until they start tracking their expenditure.

The majority of the population would have a far better credit score if they tracked their expenditure.

Often they have enough income to meet all their bills and debt repayments but get into situations where they can’t make the payments simply because of overspending and wasting money on items that they don’t need.

A lot of this expenditure is for small items and that is why it goes unnoticed. It can be as small as buying a coffee each and every day or buying takeaways on a regular basis.

Even the cost of driving down to the local fast food outlet uses additional petrol and that can add up to a sizeable sum over the course of a year.

It’s the little things that sometimes matter the most at the end of the day as they are the expenses that can be the difference between paying the bills and having to pay late fees.

Consider how much the total cost of smoking cigarettes will cost over the course of a year and you begin to see how much more difficult life can be when money is wasted on items that are adding no value to the quality of your life.

You might not smoke but most people can find things that they waste money on regularly and would be happy to do without if the alternative was a life free from the stress of financial burdens.

Impulse spending and spending of the small change can account for a relatively high percentage of most people’s income and if this money was applied to debt reduction, credit score would soon rise to more favorable levels.

A good budget will quickly show where these ‘money leaks’ are and allow you to plug them and channel the money into more constructive areas.

It might take a few weeks of diligently tracking all of your spending for these expenses to surface but once you do you will find you can break the bad habits.

It might be all you need to do, to start heading in the right direction.

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Credit score and credit type

To a lesser extent than your credit history, the amount of your credit and the time you have had credit, your credit score will be affected by the type of credit that you have.

You can estimate that this will account for approximately 10 percent of your credit score on average.

As with most other areas of credit repair this is also relatively easy to resolve by simply getting more of a mix with your borrowings.

Lending institutions like to see that you are capable of managing various types of debts as this will give them the confidence that you will be able to handle the repayments of their money.

If you have a few different types of loans and also pay bills on a regular basis then that will represent a fairly rounded portfolio and should show that you are competent with the management of your responsibilities.

Look at the types of credit that you currently have and consider getting other types of credit in the form of credit cards, small hire purchase loans or any other small loans that differ from those that you are holding at present.

This is not to encourage you to increase your debt and place additional strain on your finances but you can substitute part of one form of credit with that of another.

You will need to look for a suitable balance when doing this as even though the lending companies like to see that you can handle many different forms of debt they won’t like to see that you have too much debt or too many debts.

Think along the lines of the lender and borrow according to what you believe they would like to see.
In all accounts make sure that you make all your repayments on time and when you are managing more than one debt you really do need a budget to make it easier to manage and remember the payment dates.

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What is the best way of handling your creditors?

You will need to look at things from their point of view to understand the way that they will react to the fact that you haven’t paid your account.

They have given you a product or service that has cost them in time or money and all they expect in return is for their account to be paid. They are trying to run a business and for all that you know they might be faced with financial difficulties themselves where they are reliant on getting the accounts paid on time to cover their expenditure.

So when you are faced with a situation where you can’t pay your creditors you need to contact them as soon as possible to explain the situation and assure them that you will pay the account as soon as you can. You need to make them feel satisfied that they will be getting their money even though there will be a delay and that delay has only been caused because you simply have no alternative.

This communication will reduce the chances of creditors taking legal action against you to recover the money. It will make them feel a lot more comfortable than for you to remain silent and not let them know what is going on and have one month dragged into the next when your account hasn’t been paid and they become ever more frustrated at the fact that you are not responding to their requests for payment.

Treat them as you would hope to be treated yourself if you were in a similar situation.

Remain in contact with them on a regular basis even as you are paying off your old debt to keep assuring them that full and final payment will be coming. This will help to build some form of trust between you and your creditor and they will begin to understand that you are making a concerted effort to clear your account.

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Which debts to pay first

The debts that need paying first are the ones that will cause you the most grief if left unpaid.

It goes without saying that taxes are at the top of the priority list as the IRS has more powers than anyone to recover the monies owed to them and failure to pay their account on time will not only result in interest but also penalties that can quickly mount up to more than the original debt.

Medical debt is also high on the list of priorities and it is essential that you look after your health and that of the members of your family. Without good health you will need more money to pay for your health care and if you can’t provide sufficient health care for yourself and those who are under your care then the long term problems that can come about from that are often much more costly than the original debt.

Student loans and child care support are both top priority as they are debts where government departments get involved and they have wide reaching powers to recover monies owed to them to such an extent that they can actually make your debt reduction program more difficult to achieve.

You should learn to prioritize all aspects of your life from the debts that you need to pay first to the tasks that you need to get done each day. Time management will help you through your daily tasks and financial management will ensure that you have the least problems possible with your creditors by paying those who must be paid first.

Just because a debt collector starts putting pressure on you to pay a minor debt doesn’t mean that other more important debts should wait for payment. Take control of the situation in all instances where possible and stay with the budget and the process that you have created for efficient debt control.

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Secured credit

In certain circumstances where you are having difficulty getting credit due to a low score you might need to consider getting secured credit.

Secured credit is where you have some form of collateral as security for the money borrowed.

An example of this would be a loan where you use an asset such as a house or some other form of asset that is of a value that the lender will be able to recover their money from the sale of.

Usually you will have to pay a higher rate of interest when you need to get a loan like this but for the time being when you need to get such a loan you should consider it as a stepping-stone that will lead to the repair of your credit score.

If there are no suitable assets to use as collateral it might be possible to get a family member or friend to offer something suitable if they trust that you will be able to make the payments on the loan and clear the debt.

The loan doesn’t need to be very big and in fact the smaller the better initially as it will give you the opportunity to start the repair of your credit score while not burdening you with excessive interest payments on the small amount of principal.

Once you have done this, or maybe after you have done this a few times you will have the opportunity to get a non secured loan to further advance your credit score rebuilding process.

Obviously you will try to get unsecured loans initially but this allows you another option when you might consider all is lost and you will need to take some form of action to get back on your feet again.

Lenders will also be happy to see that you have been making a concerted effort to repair any damage that has been done in the past and this can have a positive effect on any applications you make for more credit.

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Saving money

At some stage you will want to begin saving money to cover costs that will be occurring in the future, however until you have paid off your debt that is costing you money in interest and penalties it is not wise to save money.

You need to reduce and eliminate your debt thereby cutting off the drain on your income that is required to cover the interest costs and by doing so you will be gaining a lot more benefit than trying to build up a surplus of funds in your account.

You will always earn less money from the interest of funds invested than it will be costing you for the interest you are paying on your debts.

Because of this if you were to save money and not pay off debts it would be a backward step as it is in effect costing you the difference between the after-tax interest you could be earning on your investment money and the full amount of interest that you are paying on your debt.

In addition to paying interest on your debt often you will be missing out on discounts for early payment of accounts and this is an additional ‘saving’ in effect that you will be losing out on by not making payments on time.

The best action you can always take is to reduce debt where possible unless that debt is associated with an income earning asset or something that you will make a capital gain on over and above the expenditure that you have to make on the interest by having that debt.

Once you have cleared all your debt then you can start thinking about making savings but it is not a good business decision to do that before the due time even though it might make you feel good.

Eliminate your most costly debts first, the rest of your debts second and then start saving your excess funds when all else has been taken care of.

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