Whenever you apply for credit cards, loans, housing or insurance, your credit rating plays a role in your approval. According to the Federal Reserve Bank of San Francisco, a positive credit rating benefits you by helping you achieve your financial goals while a poor credit rating limits your buying power.
Facts
The information on your credit report determines whether you carry a positive or derogatory credit rating. Your creditors report your accounts and payment histories to the credit bureaus. The credit bureaus then compile a credit report for you based on the information. The credit rating system, as explained by the Federal Trade Commission, is based on points. You receive points for positive information on your credit report and lose points for derogatory information. The credit bureaus then compare your data to the data of other consumers and use a statistical formula to assign you a credit score
Significance
If you have a high credit rating, your credit report likely reflects a good balance of credit cards and loans and a history of timely payments to your creditors. If you pay your bills late, file for bankruptcy or have several debts in collections, however, this information will appear on your credit report and damage your credit rating. Fortunately, negative information doesn't appear on your credit report forever. The Fair Credit Reporting Act limits most negative credit entries to a reporting period no longer than 7 ½ years When the credit bureaus remove derogatory information from your credit report, your credit score increases. The higher your credit score, the better your credit rating.
Function
Lenders review your credit data before approving your applications to determine whether you present an acceptable financial risk to the company. If, for example, you have a history of failing to pay your creditors on time and defaulting on previous loans, this indicates to prospective lenders that you are likely to engage in the same type of behavior in the future. If you present a high risk of financial loss to a lender, it can either deny you new credit or loans or charge you a high interest rate. A good credit rating, however, shows lenders that you possess good debt management skills and will likely repay your debts. Thus, a lender can safely award you a low interest rate.
Considerations
You have a credit report on file with each credit bureau: Experian, Equifax and TransUnion. Because the credit bureaus only share consumer information with one another in cases of identity theft, your credit reports may reflect different accounts. Some creditors only report accounts to one or two credit bureaus rather than all three. If the data within your credit reports differ, your credit scores will differ as well This can result in you having different credit ratings from each credit bureau.
Warning
Incorrect information on your credit report can damage your credit rating and cause you to unfairly be turned down by lenders or charged high interest rates and fees. The Fair Credit Reporting Act gives you the right to notify the credit bureaus of any inaccurate information you discover on your credit report and request its correction or removal. You can file a formal dispute over errors in your credit report with each credit bureau by mail, online or over the telephone.
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