Understanding and Improving
Your Credit Score

See also: Loans and Savings

If you have ever tried to get a loan, you may have come across the term ‘credit score’ or ‘credit rating’. You may also have heard people talking about checking or improving their credit rating as a way to get a loan.

But what does the term mean, and can you really take action to improve your credit rating?

This page provides all the information you need to find, check, understand and improve your credit score or credit rating.

What is a credit rating?

A credit score, or credit rating, is a number used by lenders to decide whether to lend you money.

It basically tells them how likely they are to be repaid, and whether they will be able to make money from lending to you. There are two main types of credit rating:

  • A generic credit score, which is provided by a credit reporting agency

    The three main agencies are Experian, Equifax and TransUnion. You can get a free copy of your credit report, including your credit rating, from any of them. Your generic credit score is based on your credit history: that is, your history of borrowing and repaying money, including through credit cards. It also includes information from the electoral register, so it shows whether you have moved house a lot in the last few years.

  • A custom credit score, which is held by an individual lender or financial organisation

    This score is based on your history with that institution or lender, and may therefore be very different from your generic credit score (see box).

    Your credit rating matters, because it affects your likelihood of getting credit in future. You may also get better rates of interest with a higher credit rating, as well as higher credit limits. It is therefore worth spending a bit of time to understand how a credit rating is calculated, and how you can improve it.

Case study: A blank sheet?

Jo had just started her first job after university, requiring a move to a new city. She had a current account with a debit card, but decided to apply for a credit card as well. She checked a few comparison sites to find the best option, and then confidently sent off an application. To her surprise, it was declined.

To see why, Jo applied to see her credit record. It was blank.

Her parents had supported her financially through university, so that she had never had an overdraft or loan. A recent change in the rules about registering to vote also meant that Jo was not registered at her current address, as she had only just moved there. She realised that this lack of information could be the problem.

She called her own bank and asked if they would give her a credit card. After a few minutes, the call handler said,

“Yes, that’s no problem. Your credit rating with us is really high, so I can authorise that now. Your new card will be in the post to you today.”

Intrigued, Jo asked if the call handler had any idea why her other application had been turned down. She explained about her credit record being blank.

“Yes,” came the response. “That’s very off-putting to lenders because they don’t know whether you’ll pay off your card. But I can see that you’ve had an account with us for 6 years, including as a student, and you’ve never had an overdraft, so your credit rating is really high with us.”

It was a useful lesson in the difference between custom and generic credit ratings—and checking your credit record.

Calculating a Credit Score

Despite what you may read, there is no single ‘standard’ formula for calculating a credit score.
There are some standard methodologies, such as the FICO system proposed by the Fair Isaac Corporation. This is used by many financial institutions, but not all. In addition, different agencies and financial institutions may have access to different information about you. Each lender also uses their own criteria to decide whether to lend to you.

However, most credit scores take into account similar information, including:

  • Your payment history;

  • The amount of money that you owe in total. This includes the amount or percentage of the available credit that you are using, a factor known as credit utilisation;

  • The length of your credit history: how long you have been borrowing money or using a credit card;

  • The types of credit that you use, including a mortgage, student debt, credit cards and personal loans; and

  • New or recent credit or applications for credit.

Your credit rating will also check the electoral register, so lenders can see how long you have lived at your current address. This is important information, because moving too often may suggest that it could be hard to find you if you default on a loan.

Credit ratings use information from the last six years.

Credit Rating Myths

There are several myths out there about credit ratings, and they are just that: myths.

For example: there is no credit ‘blacklist’.

Just because you have been denied credit by one lender does not mean that it will be impossible to get credit elsewhere. Individual lenders make their own decisions about whether to lend to you. However, they all have access to similar generic information—so if there is something off-putting in that, it will put all of them off.

It is also important to remember that a good credit rating does not automatically give you access to credit. A bad one is also not an automatic denial.

There is more to lending decisions than just the credit score.

Improving Your Credit Score

There are several steps that you can take to improve your credit score. These include:

  • Register to vote at your current address. This is proof that you live there, and can also be proof of the length of time you have done so.

  • Pay all your accounts on time and in full each month. This shows potential lenders that you are a good credit risk.

  • Keep your level of credit utilisation low. This means only using a fairly small percentage of your available credit each month. Experian recommends about 25%. If you have a credit card which has a limit of £4000, this means not spending more than £1000 per month on it.

  • Take steps to build up your credit history. A blank credit history can be as off-putting as a history of defaults, because it makes your level of risk unknown. Make an effort to build up your credit history. For example, if you do not have a credit card, apply for one. You may need to go to your existing bank or another provider with whom you have a history. Alternatively, you can get what is called a ‘credit builder credit card’. These are designed for people with little or no credit history, and have lower credit limits and higher interest rates than standard credit cards, and can be a very good way to build your credit history However, make sure that you pay it off each month, and only use a small amount of the available credit.

  • Close unused accounts—but not all at once. Opinion is divided about unused accounts and cards. Experian recommends that you should close them, because having a lot of accounts means you have a lot of credit available to you, and lenders may think you can’t handle more. However, some financial advisers suggest that closing all your accounts at once may be a red flag to lenders, suggesting that you have had problems. It is also helpful to be able to show that you have had credit cards and managed them effectively over a long period. The middle ground is probably to close any card when you decide that you won’t use it anymore—but not too many cards at once.

  • Don’t make too many applications for credit in a short space of time. Each application for credit leaves a note on your credit file. Making a lot of applications very close together may be a problem for lenders, because it may look like you are becoming reliant on credit, and therefore a bad risk.

Keep Checking

It is important to keep an eye on your credit score.

This is particularly important if you know you are going to want to apply for credit in the near future—for example, if you are planning to buy a house.

However, it is also important to check that nobody is using your identity for fraudulent purposes because this could seriously harm your credit rating. Take time to check your credit score every six months or so—and at least every year. Check your personal details are right, and that there are no other mistakes.

If you find any mistakes, or information that is not about you, inform the credit agency at once, to get the information corrected.

It is worth checking all three main credit agencies each time, because they hold slightly different information.

A Final Thought

Above all, never spend money you can’t afford.

The very worst thing that you can do for your credit score is to default on payments, especially if you end up in court. Only borrow what you know you can repay. If you do get into more debt than you can handle, be responsible and act quickly to sort your situation. There is more about this in our page on Getting Out of Debt.