A credit score is a direct reflection of how an individual manages their debt. Because credit scores are affected by a number of variables and financial metrics, they tend to fluctuate over the course of a lifetime. A healthy credit score can be a powerful tool for managing your finances, upholding your creditworthiness and building up the bargaining power you may need in future negotiations with lenders.
Why your credit score matters
Commenting on the importance of monitoring your credit score is Samir Ghrib, Chief Risk Officer at consumer finance firm, RCS. As he explains: In essence, your credit history provides banks and other lenders with an accurate indication of the level of risk you represent as a potential debtor. And while living debt-free may seem like a favourable outcome, the long-term implications may mean not having access to credit when you need it in future.
Maintaining a manageable amount of debt and building up a positive payment history can therefore broaden the scope of financial products that become available to you along your personal finance journey.”
Starting from zero? Start with a store card
Store cards are often the first exposure that many consumers have to the world of credit. When compared to other forms of credit, applying for a store card is typically much easier for consumers with minimal credit history. In most cases, this form of credit is offered to any individual who is 18 years and older, making it a great starting point for practicing responsible debt management from early adulthood.
Another reason why many South Africans kickstart their credit history with a store card is because the required monthly earning level is often lower than larger credit facilities. For example, employed South Africans who earn R1000 or more per month are eligible to apply for an RCS store card.
Individuals whose applications are approved are offered credit limits that are relative to their monthly salaries. This gives lower-income earners the opportunity to make credit purchases that they can affordably pay back over a period of time, while building up a positive score.
With time, as their earning potential increases and their payment history reflects consistent and adequate monthly instalments, they may be offered a higher limit. This gradual progression allows store card holders to become accustomed to tailoring their budgets according to the stipulated limits and developing prudent spending habits.
Top tip: curb your credit applications
Part of maintaining a healthy credit score involves understanding the factors that contribute to the final calculation. When any application for credit is processed, this activates a hard enquiry or “credit pull” on the consumer’s profile. And it is this which can lead to the lowering of their credit score.
For this reason, consumers should avoid applying for multiple lines of credit or approaching many different providers at the same time. This behaviour, known as “credit shopping” can be detrimental to your credit score and ultimately lessen the chances of being approved.
Top tip: use less than the limit
Another influencing factor is the proportion of the available credit that a consumer uses. High debt repayment obligations in relation to your earnings or as a high percentage of the total credit available can negatively affect your credit score.
Providing his rationale on the relevance of this metric, Ghrib says that: “Ultimately, potential lenders want to know that users who have available credit are prudent enough not to ‘max out’ their limit by living beyond their means. For this reason, we advise consumers to keep their repayments to no more than 20% to 30% of their total monthly earnings to avoid becoming over-indebted.”
Top tip: pay on time and consistently
Arguably the most important contributing factor to the health of any credit score is the payment history on the relevant account. Defaulting on a payment or paying less than the monthly installment owed will negatively impact the consumer’s credit score. The consequence of missing one or more payments to a lender can remain on a credit report for up to five years.
For this reason, Ghrib encourages South Africans to always pay at least the minimum amount owed on time – taking into account that bank transfers can take up to three days to clear. Depending on your financial position, it may be a good idea to set up a direct debit order of the minimum amount after your salary has been paid into your account.
And, as Ghrib reminds consumers, when salaries are delayed during the course of changing jobs or being unemployed for a period, it’s important to ensure that these debit order instructions can be honoured in full to avoid paying penalties and unnecessary bank charges.
He also urges consumers to pay more than the minimum monthly instalment as often as possible. Planning ahead to use bonuses, tax rebates, gifts and unexpected income as a way to “top up” your debt repayments is a sound financial habit and a good indicator of your creditworthiness.
In cases where consumers are unable to honour their debt repayments due to loss of income or affordability issues, Ghrib advises: “Act quickly and decisively in seeking assistance from your credit provider who can help you re-structure your repayments according to what you can afford. Doing this early, before the debt accumulates and drastically reduces your credit score will give you a better chance of recovering your financial position and credit status faster.”