Tuesday 21st May 2024

Negative impact of debt on credit scores 

Tolu Frimpong discusses the negative impact that debt can have on credit score

When it comes to money management, understanding the intricacies of credit scores is essential. What’s more, grasping how debt and credit scores work together is crucial in navigating your personal finances effectively.  

Many lenders use your credit score to assess your creditworthiness when you apply for loans, credit cards, or mortgages. For this reason, it is important to manage your debt responsibly to maintain a healthy credit score.  

Debt can have various negative impacts on your credit score. In this blog post, we’ll explore different ways debt can negatively affect your credit score, plus provide insights into how you can mitigate these effects. 

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Dangers of late or missed payments  

One of the most significant factors influencing your credit score is your payment history. Late or missed payments on loans, credit cards, or other debts can hurt your credit score. This is because lenders view missed payments as a sign of financial irresponsibility, which can result in a lower credit score. Avoid the late payment trap by leveraging tools like your diary and setting reminders for payment due dates. 

Be mindful of credit utilisation ratio 

Your credit utilisation ratio refers to the percentage of your available credit that you are currently using. High credit utilisation ratios of 50% and more can negatively impact your credit score. The reason for this is that lenders view high credit utilisation as a sign that you are over-reliant on credit, which can consequently lower your credit score.  

Overcome this by reducing your credit utilisation and making more than the minimum debt repayment. You could also ask the lender to increase the credit limit. The caveat here is you should only make this request to the lenders if you can resist the urge to overspend. 

Don’t default on loans 

Defaulting on loans, such as personal loans, mortgages, or car loans, can severely affect your credit score. A default occurs when you fail to make payments as agreed in the loan agreement, leading to negative marks on your credit report and a significant drop in your credit score.  

To mitigate the impact of defaulting on loans, be proactive and speak to your lenders. Many lenders offer hardship programs or repayment plans that can help you manage your debt more effectively.  

Avoid applying for multiple credit accounts  

When you apply for a new credit account a hard enquiry is added to your credit report. If you have too many hard enquiries within a short period of time, it can negatively impact your credit score. The reason for this, is lenders may potentially view multiple credit applications as a sign of financial distress, or once again, an over-reliance on credit. 

Minimise the negative impact of applying for multiple credit accounts by spacing out credit applications. Also try researching eligibility criteria beforehand for the chosen creditor as this will help reduce the number of unnecessary enquiries, monitor your credit report regularly, and explore alternative credit options.  

In summary, understanding how debt can impact your credit score is vital for a healthy financial life. By managing your debt responsibly and avoiding these common pitfals, you can protect your credit score and improve your overall financial health. If you find yourself struggling with debt, consider seeking advice from a financial advisor or debt advisor to explore your options for debt management and credit repair. 

Tolu Frimpong

Mouthy Blogger

Tolu is a Money Coach and Content Creator, passionate about helping others break the payday-to-payday cycle and achieve their financial goals, through the power of intentional budgeting, saving and investing. When she’s not talking about money you can find her spending time with her 3 boisterous boys.

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