If you make an effort to repay all of your bills and return money on time, this sound financial decision will be rewarded with better auto loans and mortgage rates. However, why is that the case? Here’s how credit score and interest rate are related and why improving your credit score will help you save a lot of money in the long run.
What Are Credit Scores and Interest Rates?
Credit scores are a measure of an individual’s creditworthiness, such as how often they make bill payments on time. How high or low a credit score indicates how well they have handled previous credit and financial decisions. For example, if you successfully repay borrowed money and pay your bills on time, then you’ll have a good credit score. Likewise, if you do not pay back the money in a timely manner, you will receive a lower credit score as a result.
If you need to purchase something expensive, such as a home or a car, you may need to ask the bank for a loan. Upon doing so, the lender will ask you to pay interest in exchange for their borrowed asset. Therefore, the interest rate is the price an individual must pay for borrowing money which can change based on the amount that was borrowed. Those with a low-interest rate have less they need to pay to their lender each month, which is more desirable than having a high-interest rate.
Why Do Credit Scores Influence Interest Rates?
The reason why improving your credit score is good for your interest rate is because it demonstrates to your lender that you are a trustworthy person to lend money to. When you ask a bank or lender for a loan, they’ll examine your credit score to see whether you are a responsible borrower. Lenders want to limit risk as much as possible, so if you have a good credit score, you’ll be deemed less risky and receive a better credit score in turn.
People with poor credit scores receive a higher interest rate because the lender believes they will be less likely to pay them back in the future. Ergo, such individuals must pay a higher interest rate so the lender can recoup the cost of the loan if it is not repaid.
What Are FICO Scores?
Lenders utilize a credit score system when examining an individual’s creditworthiness. While numerous scoring formulas are available, the most commonly used method is the Fair Isaac Corporation (FICO) system. A FICO credit score takes a person’s payment history, length of credit history, and current indebtedness level, among other factors, to determine their score. These factors are weighted differently based on their importance, with payment history being the most significant factor. FICO scores tend to range between 300 to 850. If you’re planning on improving your credit score, you will want to aim between 670 to 739, which is considered a good FICO score.
If you want to save a large amount of money whenever you take out a loan, and have a strong incentive to improve your credit score, Quality Credit Repair can help. Out of all the credit repair companies in Philadelphia, we offer one of the best debt counseling services available. You can place your trust in us when it comes to improving your credit score. Contact us today for more information!